low-interest- rates-home-buying

Low Interest Rates and Home Ownership

Low Interest Rates and Home Ownership

Minimal Interest Rates and owning a home

Currently, the housing market in the United State is enticing for those willing to sell their property and rough for those looking to purchase a property. Prices are on the high side due to increased demand and reduced supply, most especially for new home owners.

Nevertheless, millennial’s are finding it a lot easy to buy a house now compared with their parent’s time.

In 1981, the interest charged on Mortgage in the United States was as high as 16.6% and this was due to massive inflation. Today, mortgage interest rates have fallen to about 4.5%, they were even as low as 3.5% in 2016.

However, if interest rate continue to experience a steady increase, it might not be so easy to buy a house very soon.
This is due to the Republican tax bill President Trump recently signed into law. This bill places a limit on the amount new homeowners can deduct on their mortgage interest on a $750,000 debt. A reduction on $1 million debt it was previously.

Interest Rates Vs. Home Sale Prices

Determining which is more important, interest rate or sales price is entirely dependent on your perception. The idea that real estate is local hold true because real estate market trends differ from one market or geographical location to another. To put in clear context, what happens in the real estate market in Chicago differs from what is obtainable in California. It is almost impossible to predict the trends, but one can use market movement to your advantage. The general perception, although this isn’t always the case, is that an increase in interest rate leads to a reduction in sales price.

Declining Interest Rates vs Rising Sales Prices

Take for instance, you are evaluating the wisdom in purchasing a house in Arizona which was going for $240,000 at 4.5% interest rate, or purchasing in a falling market at $210,000 with an interest rate of 6.5%. Funny as it might seem, it could be a lot beneficial if you actually purchased the house at $240,000. Why?

Payment for an 80% LTV mortgage for a house priced at $240,000 at an interest rate of 4.5% is $972.84.

Payment for an 80% LTV mortgage for a house priced at $210,000 at an interest rate of 6.5% is $1067.87.

From another perspective, assuming you paid $240,000 for the house and stayed in that property for exactly 30 years, you would have paid $350,222.24 in total by the time you would have finished paying off your mortgage.

But if you had paid $210,000 for the house and stayed in that house for exactly 30 years, you would have paid $384,433.20 in total by the time you would have finished paying off your mortgage.

In this scenario, it is better to pay more in exchange for a reduced interest rate.

Exactly how much money do you stand to lose with every 50% increase in Sales Price?

Now let’s take the $240,000 and compare with an increasing interest rate of 0.5%, assuming you intend to maintain the same payment structure. Keep in mind that the amortization for a large majority of mortgages is 30 years.

If make a 20% down payment of the sales value, how much can you pay for the house while keeping your payments below $975?

  • $240,000 x 80% at 4.5% = $972.84
  • $226,260 X 80% at 5.0% = $971.65
  • $214,062 X 80% at 5.5% = $972.34
  • $202,500 X 80% at 6.0% = $971.27
  • $192,188 X 80% at 6.5% = $971.80

From the calculation above, a 2% rise in interest rate would lead to a $50,000 loss in purchasing power within this price range. If the sales price is increased by 100%, this would lead to a loss of about $100,000 in purchasing power for an interest rate spread over 2%.

This is the reason why interest rates are really important for a lot of first-time house buyers. If you stress yourself too close to the upper limit of your price mark and the interest rate increases, there is every tendency that you might not be able to pay for your home because you would no longer qualify at that price. It is also important to keep in mind that making a cheap over isn’t always the best way out.

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