Weiss Educational Services
Rising Interest Rates and Home Buying
By Amber Dakar
Research Supervisor at Weiss Research Inc.
There must be something in the air, because in just the last month three friends have informed me they are in the market to buy a home. None are property virgins, so this will be a familiar process for each of them. However, each has a unique circumstance that is prompting them to make a home purchase now.
One friend is searching for an investment property that he can purchase and rent for years to come while hopefully building equity in the interim. Another friend is seeking to purchase a duplex. She is faced with a situation where her recent college graduate son and her father have moved into her 3-bedroom and 2-bathroom home which she shares with her husband and two younger children.
She’s hoping that her adult son and father can live on one side of the duplex while she, her husband and younger children live on the other. My other friend is a recent retiree who is seeking her future retirement home. She is deciding whether to purchase this home in the U.S. or abroad. Each of them are right on time for spring home buying season.
This time of year is known as first peak season and actually benefits home sellers more than home buyers, especially where home pricing is concerned. The larger than usual number of buyers actively searching the market can increase competition and drive up prices for in-demand homes.
So, please note, during this time of year you may not be able find many bargains, but the abundant home selection is plentiful compared to the late fall and winter months’ market. So, is now a good time for my friends to purchase a home? Based on interest rates alone, I’d would say yes. But, it depends on their personal financial situation and custom needs.
Though the Federal Reserve raised short-term rates by a quarter point earlier this month, mortgage rates are tied more to the 10-year treasury bond yield, versus the Fed’s benchmark interest rate.
So, the upward move in 30-year mortgage rates actually started last November and have already increased from 3.77% then to around 4.44% today. Mortgage rates for the 15-year have moved up from 3.03% last November to 3.64% today.
Needless to say, mortgage rates are still at historical lows. According to Freddie Mac, just ten years ago the 30-year and 15-year rates stood at 6.16% and 5.88%, respectively.
This means that a $200,000 mortgage purchased today would have a total cost of $362,251 versus $439,111 in March of 2007 – a total savings of $76,860. So, buying a home in today’s lower interest rate environment is still an overall savings compared to before.
Banks and mortgage lenders continue to have tighter mortgage lending standards for potential homebuyers then ten years ago. Therefore, a borrower’s credit score and credit report continue to play a significant role in whether their loan is approved or not.
So, if you find yourself in the market to buy a new home like my dear friends, please keep these seven steps in mind:
Clean up your credit history. A few months before applying for a mortgage, review your credit report and check for any discrepancies. You can access your credit report from all three credit reporting agencies once a year for free at annualcreditreport.com.
Have your bank accounts in order. Mortgage lenders will want to review several months of your banking activity; especially from the account from which your down payment is coming from. The money you’ll be using for your down payment must be well documented and seasoned. It cannot appear out of thin air into your account. They’ll need to see if it was saved over time or given as a gift from a relative or close friend. If it’s a gift, then the giver will need to write a formal letter stating that this is the case.
Additionally, if you are contemplating applying for a mortgage within the next six months or so, make certain your bank accounts don’t reflect any untoward activity such as non-insufficient fund (NSF) transactions. If they do, NSF transactions will negatively reflect on the reviewer of your mortgage application and could hurt your approval chances.
- Pay off as much of your credit card debt as possible. Many lenders will prefer if you do not have large amounts of credit card debt or open lines of credit. If you have a several credit cards with no balance and they are active with the potential for future purchases, don’t be surprised if the lender mandates that you close some of these accounts in order to be approved for the loan.
Don’t become house poor. Be realistic about how much house you can afford. Plan to borrow roughly 2 to 2-1/2 times your annual gross salary. If you’re buying the house with another person, you’d be wise to take on mortgage payments that can be supported with one income (including taxes and insurance).
Know the 28/36 ratios rule. The majority of lenders will back a buyer whose monthly house payment will not exceed 28 percent of their gross monthly income. Lenders also prefer the borrower’s overall debt ratio to fall below 36 percent of their gross monthly income.
Use a down payment. Aim to put down 20 percent on your home purchase so that you can avoid paying private mortgage insurance.
Get pre-approved. Try to be pre-approved for a mortgage before your home search begins. That way you’ll be able to better focus on the best potential home in your price range and give yourself one additional competitive advantage should you decide to make an offer.
Ms. Dakar is the author of The Busy Person’s Guide to Personal Finance, a primer to help consumers manage their finances so they can build a substantial nest-egg. She also conducts personal finance seminars where she provides concepts to attain overall financial health.