Mortgage Rates Change Home Affordability

Once you’ve made a budget, be sure to keep tabs on it. Your budget can be victimized by mortgage rates.

Homes are more affordable today than at any time in recorded history, but it’s not because home prices are down. It’s because mortgage rates are. And every time mortgage rates change, your maximum purchase price changes, too.

Did you know : In June 2011, mortgage rates changed every 3 hours, 23 minutes on average.

With mortgage rates changing as rapidly as they are, your home affordability can be short-lived. Consider the budget-busting impact of rising mortgage rates.

For every 1 percent rise in mortgage rates, a buyer’s maximum purchase price falls 10.75%.

For example, if you have 20 percent to put down and see a $300,000 home, today, you can borrow at 4.500% and pay $1,216 monthly. But if you want to wait for a price reduction and, 4 weeks later, you get it — all the way to $285,000, you're ecstatic. Until you talk to your lender and find out mortgage rates are up 1 point.

That same home — selling for $15,000 less — now costs $1,295 to carry. It’s a $79 monthly increase, and $28,440 in extra payments over the life of the loan.

This is why it’s foolish to “time” the housing market. Sure, you may get your “great price”, but rising mortgage rates wipe out the savings (and then some).

Squeezing Extra Dollars From The Budget

So what do you do when you need to squeeze a few extra dollars from your budget? You can’t wait for mortgage rates, after all, because mortgage rates are random; there’s unpredictable day-to-day. But, you can do more with a mortgage.

Specifically, you can avoid ”over-paying” on your mortgage.

The most common example of “doing more with a mortgage” is recommending against the 30-year fixed rate mortgage when a lower-rate adjustable rate mortgage is more suitable. Homeowners planning to sell within 7 years, for example, don’t need a 30-year fixed-rate loan. Many will opt for the 30-year fixed anyway, however, citing “peace of mind”.

That can be an expensive insurance policy.

Example: In July 2011, mortgage rates for the 30-year fixed-rate mortgage were 130 basis points higher than for an otherwise identical 5-year ARM. As a result, buyers financing with a 30-year fixed paid 12% more each month for their mortgage.

It must be said: Although adjustable-rate mortgages are “cheaper”, they should not be used as a means to “afford more home”. They’re most suitable for people with a relocation history and/or with the ability to manage higher housing payments in the future. When appropriate, ARMs can be a huge money-saver.