It’s confusing with so much going on in the world right now, especially concerning inflation and the housing market. Now that mortgage interest rates are increasing and expected to continue on that path indefinitely, how does all of this affect your home buying power? Since this will very possibly be the largest transaction you make, for the most valuable asset in your portfolio, it’s critical to know your bargaining tools and financial options. Here are some tips for combating high-interest rates in today’s housing market.
Navigating the Market
Usually, the housing market is easier to read and predict, as it’s driven mostly by supply and demand. But we are living in unprecedented times, and because of the global pandemic, we’ve seen record-breaking housing demand across the nation, and supply is simply not catching up. Home prices in multiple cities, including Miami, Boise, and Austin, have jumped over 20% year-over-year. On top of everything else, inflation has come in with a vengeance. The Fed is now forced to raise interest rates to keep the now 8.5% inflation under control. Interest rates are expected to continue to increase through at least 2022 before we can see any relief. (Good grief!) As we brace our pocketbooks for yet another impact, is there anything we can do to soften the blow?
First of all, if you’re a first-time home buyer, the interest rate you get is crucial in determining how much you can spend on a house. This is because the lender will cap the amount of money they will loan you, based in part on the interest rate. In fact, rising interest rates affect your buying power even more than rising home prices do. A good analogy is, that if home prices go up by 10%, it only takes a 1% interest rate increase to have the same effect. Currently, we have both of these things that are happening at the same time, which is something that has rarely ever happened in history – and never at this rate.
Lock in Your Mortgage Rate
Did you know that you can ask the lender to lock your interest rate when you’re in the mortgage application process? Interest rates change by the minute, and the loan process is typically lengthy. As a result, there could be a significant difference between the rate you get when you apply, as opposed to when you actually close. Keep in mind that locking in your interest rate is not always the best decision, especially if rates are unpredictably fluctuating. You wouldn’t want to accidentally lock yourself into a higher interest rate if rates have gone down. However, the federal government has recently gone on record saying they are going to be increasing interest rates over the next few years. Therefore, this is one time where you can use the utilize the lock to your advantage as we can assume that asking for a mortgage rate lock right now will come with fewer risk. Let’s go over a few more important details.
Typically, the lock is only good for about 45 days. Some may ask for the lock right after pre-approval or some may wait until the seller officially accepts the offer. The average closing time is right at about 45 days so depending on how complicated your individual situation is, you may want to wait to see if the offer is accepted, before locking in your rate. Locking in your interest rate is something you can use to protect yourself with during the home buying process and you can use it for refinancing, as well. Besides from locking in your interest rate, there are other things you can do to protect yourself in the current environment.
Save a Bigger Down Payment
Most folks have to save for quite a while for their down payment, as typically buyers are asked to put at least 20% down on the loan. After all, for just a $250,000 dollar home, that’s $50,000 dollars! Unfortunately, we know that when inflation increases, the value of the dollar decreases (note: there can be various other contributing factors to the dollars’ decreasing value). When that happens, shrewd investors start taking precautions by investing in other reliably valuable assets.
By putting more than 20% down, you’re protecting your money and your investment, especially as cash continues to lose its purchasing power with inflation. You’ll be reducing the principal while simultaneously lowering your monthly interest payments, and building equity faster. Additionally, you generally get a lower interest rate the more you put down. You can see why putting as much down on the house as possible would be beneficial in many ways, especially in the big picture, for your overall financial well-being.
Choose the Right Type of Mortgage
The other main thing to remember is there are several different types of mortgages to consider. Of course, most people know about 30-year and 15-year fixed-rate loans. The 30-year fixed rate is the most common. Most people prefer the predictability and lower monthly payment that’s only possible by spreading out repayment over a long period of time. But remember, you will end up paying a lot more interest that way. In a rising interest rate atmosphere, consider a 15-year fixed-rate instead. Yes, the payment amount would increase significantly, however, you’ll get a better interest rate for a 15-year loan, plus you’ll be paying less interest and building more equity faster. Both of these types are conventional mortgage loans and both lock in your interest rate for the life of the contract.
In addition, there are adjustable rate mortgages or ARMs. This option is sometimes attractive to people who expect a large enough cash influx to pay off the house early. ARMs start out with what’s sometimes called a “teaser” rate. They’re tricky to figure out, and typically not advantageous when interest rates are rising. However, if you know you’ll be paying off the rest of your loan early, then the initial incentives could work in your favor. There are ratios to choose from: 3/1, 5/1, 7/1, or 10/1. The first number refers to the number of years the initial teaser rate lasts, and after that, the lender adjusts your rate each year. Not arbitrarily of course, but this is when lenders really matter – because every lender is different, and you’ll really need to study each one. But if you don’t expect to keep the loan long enough to matter, this choice may benefit you in the short term. In any case, ARMs are an option to consider.
Lastly, there are also government-backed mortgage loans; FHA, VA, and USDA. Government loans are designed for people with limited income or a credit score lower than normally accepted. They help people become homeowners that might otherwise fall short. Ask your lender if this is something you have as an option if you think this sounds like a fit. Your state might also have first-time homebuyer assistance programs in place, helping you with a down payment or getting a lower interest rate.
Additional Tips for Home-Buying
Other than that, here are a few more things you can do if you’re trying to buy a house in the current climate of rising interest rates and am finding affordability to be an issue. For one thing, try searching in a different area or neighborhood with a lower price point. Evaluate your list of preferences to see if there’s anything you can do without, for now. Remember, the rising climate is only expected to last 3-5 years, so you can opt for refinancing when the rates decrease. It is still possible to obtain homeownership and make the American dream come true for you and your family. So if you want to buy now, just remember to start your search early and arm yourself with knowledge. Good luck in finding the perfect home and the best deal possible!