If you’re embarking on the journey to become a homeowner for the first time, there are probably a lot of new terms you’re learning, or terms you’ve heard before that you now need to fully grasp.
Most likely, interest rates are one of those terms. Here is some basic information to help you understand what they are, how they’re determined and most importantly: how they’ll affect you and your budget as a homebuyer!
Interest Rates & Mortgage Payments
A mortgage is a loan you use to purchase a home, and the interest rate determines the percentage of interest charged on that loan. Mortgage interest is essentially the fee you pay for the ability to borrow money to purchase a home.
So, your mortgage payment consists of money toward the principal (loan amount) interest charged to borrow that amount and a few other factors such as taxes, insurance and more.
How are Interest Rates Set
Unfortunately, there is no quick and easy answer to this question. But overall, federal interest rates are set on a national scale and influence interest rates within your state and local economy. They’re also set based on your debt-to-income ratio and credit score.
If you have a history of bad credit, a lender is likely going to consider you a higher risk, resulting in a higher interest rate. If you have excellent credit, vice versa.
But generally, current economics and federal interest rates are the starting place for your interest rate determination, regardless of the type of loan.
Types of Interest Rates
There are two main types of interest rates, fixed rates and adjustable rates.
Fixed-rate conventional mortgages lock in the rate of the loan for the entire life of the loan. So, if you have a 30-year fixed-rate mortgage at 7%, your P&I interest rate will remain at 7% from year 1 to year 30 if you chose not to refinance.
Adjustable-rate mortgages (ARMs) have a rate that is flexible for the life of the loan, so monthly payments change over the life of the loan. Often times with an ARM, the lender will give a lower rate at the beginning of the loan but the rates may change after that initial period, sometimes as often as once a year.
The type of loan you opt for may depend on a variety of unique factors to fit your specific financial situation.
Date the Rate, Marry the Home
The idea of marry the home but date the rate is all about finding the perfect home you’ll want to be in for years to come. If you can afford the mortgage and you find a home you love, it is a great time to buy!
Dating the rate refers to the ability to refinance the rate available at the time you purchase a home. It’s about the potential to refinance your rate if interest rates lower in the future. An important factor in homebuying is that when rates lower, competition tends to increase. So if you can afford the mortgage – even at a higher rate than you desire – it might give you an edge due to lower competition.
Sources:
https://www.consumerfinance.gov/consumer-tools/mortgages/
https://www.bankrate.com/mortgages/how-interest-rates-are-set/
https://www.freddiemac.com/pmms/about-pmms
https://www.investopedia.com/mortgage/mortgage-rates/
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