According to Certified Mortgage Consultant Bob Schwab, interest rates you secure when buying a home not only greatly impacts your monthly housing costs, but also impacts your purchasing power. Check out his comments here:
According to Freddie Mac’s latest Primary Mortgage Market Survey, interest rates for a 30-year fixed rate mortgage are currently at 4.61%, which is still near record lows in comparison to recent history! The interest rate you secure when buying a home not only greatly impacts your monthly housing costs, but also impacts your purchasing power. Purchasing power, simply put, is the amount of home you can afford to buy for the budget you have available to spend. As rates increase, the price of the house you can afford to buy will decrease if you plan to stay within a certain monthly housing budget.
The chart below shows the impact that rising interest rates would have if you planned to purchase a home within the national median price range while keeping your principal and interest payments between $1,850-$1,900 a month. With each quarter of a percent increase in interest rate, the value of the home you can afford decreases by 2.5% (in this example, $10,000). Experts predict that mortgage rates will be closer to 5% by this time next year.
Jay Vorhees of JVM Lending has a take on higher rates and how they affect qualifying, too:
How Do Higher Rates Affect Qualifying? Potentially A Lot.
RATES ARE GOING UP, REST ASSURED
We’ve said that at least a hundred times over the years but this time it is a reality b/c the Fed is no longer buying bonds to push rates down, and b/c the Fed is very determined to push rates up in general. We saw a slight dip in rates recently largely b/c of economic turmoil in Italy, but rates are expected to climb another 1/2 percent this year alone.
HOW WILL RATE INCREASES AFFECT THE QUALIFICATIONS OF A PRE-APPROVED BORROWER?
Rule of thumb: A 1/2 percent increase in rate will increase a mortgage payment by about $30 for every $100,000 borrowed. Hence, if a buyer is looking at a $600,000 mortgage, her payment will increase by about $180 if rates go up 1/2 percent. In regard to qualifying, an increase in rate could easily shave off $25,000 to $50,000 from a buyer’s maximum.
For example, let’s say “Jeremy” the buyer is pre-approved for a maximum $750,000 purchase with 20% down at a rate of 4.75%. Let’s also assume Jeremy’s maximum payment (Principal, Interest, Taxes, Insurance) is $4,000 and his income is $8,900 per month, giving him a maximum debt ratio of just under 45% (all numbers are rounded). If rates increase 1/2 percent, Jeremy’s maximum qualification would drop to about $715,000 b/c that is the most Jeremy could buy in the higher rate environment without pushing his payment over his $4,000 limit.
In other words, if Jeremy’s rate increases from 4.75% to 5.25%, he will lose about $35,000 of purchasing power. What can poor Jeremy do?
A. Consider an Adjustable Rate Mortgage (ARM). Jeremy can knock as much as 1/2 percent off of his rate by considering a 7/1 ARM. Knowing that very few buyers ever keep their mortgages more than 7 years will help him rest easy with his ARM.
B. Buy now while the getting is good! If Jeremy is hellbent on a 30-year fixed rate loan, he should buy now to lock in today’s rates. BUT – we will still remind Jeremy that even if rates are in the mid-5’s, they are STILL a “gift” by historical standards.
C. Buy a $50 tent and a motorcycle, and skip the house thing. I did that in my early twenties, and it was really fun. Jeremy might want to do the same. But don’t worry, we won’t suggest it. Lastly – should Jeremy worry that higher rates might hurt home prices? According to this blog, no :).
Note: for those living in a rabbit hole, last week the Feds raised interest rates and stated instead of one more rate hike, it will most likely be two more this year and then 3 more in 2019.
