How Changes In Interest Rates Can Affect Your Buying Power

BY LISA SCONTRAS

If you’re undecided as to whether now is the right time to buy your dream

home, consider today’s low interest rate environment and the potential risks of waiting. Low mortgage interest rates typically mean lower monthly payments and more buying power. The possibility that rates are going to rise may tip the scale in favor of making this important decision.

Consider this: Many people assume that a lower sales price automatically means a lower monthly payment. While this is true as long as mortgage rates remain stable, affordability is closely tied to fluctuations in mortgage interest rate as well as actual sales price — especially if interest rates are on the rise.

Here’s how it works: If you’re going to finance a home, you’ll be approved for a certain maximum loan amount, which will determine just how much house you can afford. However, since that loan amount is based on prevailing interest rates, when interest rates rise, your loan amount — and buying power — will go down.

Let’s say you have your eye on a house listed at $500,000. The following hypothetical example illustrates the power of interest rates:

Purchase price: $500,000 Loan amount: $400,000 Using an interest rate of 3.75 percent, the monthly payments (principal and interest) for a 30-year fixed rate mortgage: $1,852.46

But, as shown in this example, if you wait and the interest rate rises to 4.75 percent, that same property will cost you $2,086.59 a month — a difference of $234.13, or $2,809.56 per year. Of course, if the rate goes even higher, so will your monthly payments. Worse, rising rates could mean you can no longer afford the loan.

The takeaway is that rising interest rates can decrease your buying power and impact how much of your dream home you can afford.

Mortgage interest rates have been at historic lows for so long,

consumers may take low rates for granted. But, there has been speculation that interest rates may head upward in the coming year.

“Though interest rates were predicted to rise in the second half of this year, they have remained somewhat steady and may increase as the Federal Reserve scales back on buying bonds as the U.S. economy gains steam,” said Elina Grugier-Bell, Assistant Vice President and Manager of the Mortgage Banking Department at First Hawaiian Bank. “It may be a slow crawl to each increase, however small, rising rates still have an impact on a buyer’s purchasing power.”

Looking back to 1981, mortgage interest rates were at 16.63 percent, according to Freddie Mac (see chart below). A look back, even to 2000, shows the average 30-year fixed rate was approximately 8 percent, more than twice today’s average rate. Then, after the third-quarter stock market crash in 2008, mortgage interest rates dropped to below 7 percent. The Federal Housing & Economic Recovery Act, aimed at keeping mortgage interest rates down by purchasing mortgage-backed securities brought rates down further. In 2009 they dropped below 6 percent, and in 2010, they dropped again below 5 percent, before dipping to sub-4 percent levels.

It’s difficult to predict how and when interest rates will change. However, if you’ve found the right property and you’re ready to buy, Grugier-Bell’s advice is not to wait.

“If there is a drastic hike in rates, it will change the game completely,” she says.

Lower interest rates mean buyers who couldn’t qualify for a mortgage prior to the rate drop may now be able to get into the game. Likewise, for buyers whose qualifications are already tight, qualifying may become more difficult if rates go up. Opportunities are out there right now. If you’re thinking about buying a home, talk to a First Hawaiian Bank Mortgage Loan Officer today to find out how you can take advantage of your potential buying power. Waiting could cost you money.

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