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How Interest Rates Work

Interest rates are an important component of buying a home. Interest is the cost to take out a loan to purchase a home. It is paid in proportion to the loan and typically expressed as an annual percentage of the loan. Taking out a loan allows you to start paying off a home monthly instead of saving hundreds of thousands of dollars at one time.

Bond MarketĀ 

Rates in all reality, are multifaceted and very complex. They are affected by FED policies, foreign relationships, the economic outlook, and several other factors. But generally, interest rates have an inverse relationship to the bond market in the day to day perspective. Rates can experience volatility, and the higher the rate, the higher the monthly payment and more expensive it is to get a loan and vise versa. At the end of the day, prices are important to consider when deciding to buy a home. But equally important is understanding the cost to you to get a loan. Sometimes, low rates can offset high prices to make it a viable option to get into homeownership and start experiencing its benefits. One way to do this is to compare the current interest rates to historical interest rates and understand where rates are headed.

Historical Comparison

Over the past 50 years, rates have ranged from as high as 18.63% in 1981 to as low as 3.31% in 2012. To give you perspective:

In 1981, an $82,000 home, with 20% down, would cost $1,109 a month, excluding fees, taxes and insurance.

If 18.45% mortgage rates were still around today, a $322,700 home, with 20% down, would cost $3,986 a month, with total interest payments over 30 years of the loan amounting to $1.18 million.

Today, at 4%, that same $322,700 home costs about $1,232 a month, with a total cost of about $444,000 over 30 years.

Rates are sunk in the past several months and today remain at a historic low. This means the price to get a loan are some of the lowest we have ever seen. Interest rates are also affected individually by a borrower’s credit score and loan program. Below is a short guide.

30-Year vs 15-Year

30 year loans are most common option for borrowers. Homeowners generally prefer the longer 30-year mortgage term because it allows for lower monthly payments and the opportunity to refinance to a shorter term if desired. However, the 30-year mortgage is a more expensive loan because of interest costs.

Fixed vs Adjustable

Five-year adjustable rate mortgages, or ARMs, have historically carried lower baseline interest rates than the common 30-year fixed-rate mortgage. Rates for adjustable mortgages are lower during the initial fixed period because the potential for the rate to drastically rise during the variable period poses a significant risk for the consumer. Adjustable rate mortgages are often used by homebuyers who plan to sell their home or refinance before the initial period of fixed rates ends.

This is just the tip of the iceberg. These aren’t meant to be huge essays. They’re meant to help the average buyer. Hopefully this helps you in your pursuits of making the best choice.


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