While many individuals are primarily focused on the fluctuation in current housing prices, many are failing to recognize the significant role interest rates play in the monthly, yearly and overall cost of their real estate purchase. Interest rates are currently near historic lows in the United States, which presents a significant opportunity for those looking to purchase a primary residence or investment property. While qualifying for a loan is currently much harder than it has been in previous years, those with adequate credit and income are having no problems. Above is a chart showing several different purchase prices and their corresponding monthly payments at different interest rates. Small differences in the rate can make a large difference in the monthly payment and an extremely large difference over the life of the loan.
For example, let’s assume a buyer purchases a $400,000 home and puts 10% down. If their loan was currently at 3% and fixed for 30 years, their monthly principal and interest payment would be $1,514. If rates escalated to 6% their monthly payment would raise to $2,148. They would be paying an additional $634 a month and $7,600 in interest every year. Over the life of the loan that would be an additional $91,000 in mortgage interest. The home price would have to drop an additional 10% to equal the same principal and interest cash output over the life of the loan caused by just a 1% rise in interest rates.
Mortgage rates have an effect on both buyers and sellers. When a home buyer is prequalified, their ability to purchase is determined based partially on their monthly income and debt. If interest rates rise, the buyer’s monthly payment will rise accordingly. As rates rise, buyers purchasing power will decrease. As a buyers purchasing power decreases, the number of homes a buyer can afford goes down. If buyers can only purchase a limited number of homes then demand for homes is decreased. A decrease in demand for homes, while the supply in the number of homes available remains constant will cause prices to decrease as well.
Mortgage rates are just one of many items to consider when making a real estate purchase, but it is amazing to see the large-scale effect they will have on the overall cost of the property. Interest rates have dropped over ½% in the past 6 months, however, given the current economic climate it is unclear what the future holds for them.