Consumers are aware that interest rates are increasing, but very few understand how costly these seemingly small increases can be over the life of a 30-year mortgage. If you are reluctant to buy now, you need to rethink your position. The experts believe that interest rates will increase by another quarter point before the end of 2018 and that another three rate hikes will follow in 2019. This means today’s mortgage rate of 4.85 percent may be 5.85 percent a year from now. This one point increase is much, much bigger than most people realize, costing borrowers up to 23 percent more in terms of interest paid over a 30-year mortgage. Depending on the size of the loan ($400,000+), that amount could easily exceed $100,000 or more in additional interest.
If you are waiting to purchase, here’s how to see how costly that decision may be:
First, use an online mortgage calculator to determine your current monthly payment. Be sure to use an amortization calculator that also totals the amount of interest paid over the life of the loan. https://www.bankrate.com/calculators/mortgages/amortization-calculator.aspx
- Repeat the process, except increase the interest rate one full point.
- Once you have found the monthly payment for each set of interest rates, multiply the monthly payment for each by 12 to determine the amount of the annual payment.
- Subtract the total amount of interest paid at the lower interest rate from the total interest paid at the higher interest rate.
- Create a chart like the one below to illustrate the difference in the costs of transacting now versus a year from now:
For a $250,000 purchase price with a $200,000, 30-year, fixed rate mortgage:
|Interest rate||4.83%||5.83%||1.00 %|
|Monthly payment||$1,053||$1,177||$124 per month|
|Total annual payment||$12,636||$14,124||$1,488 per year|
|Annual income required for front-end ratio (28% maximum for conforming loans)||$45,129||$50,443||$5,314|
|Total interest for 30 year mortgage||$179,066||$223,839||$44,773|
In other words, a borrower who makes approximately $45,129 annually would have to make $50,443 to qualify at the increased interest rate for the same loan $200,000 loan amount. (This is provided that their total debt payments including their mortgage, do not exceed 40 percent of their income.) According to the amortization calculator, the difference in total interest paid over the life of the loan is $44,773 ($223,839-$179,066) or approximately 23 percent of the entire loan amount.
If the rates increase two full points from 4.83 percent to 6.83 percent, the total interest paid over the life on that $200,000 mortgage will be $270,825. That’s an additional $91,759 in interest or almost 46 percent of the $200,000 loan amount!
You may worry that prices may decrease. The current prediction from the National Association of Realtors regarding price appreciation is that 2018 prices will be up 4.7 percent nationally and will increase by 3.1 percent in 2019 and 2.7 percent in 2020. While these numbers will vary widely across the country, the average price gain is predicted to be 5.8 percent over the next two years.
Consequently, the true cost of waiting to purchase for one year would be the 23 percent of additional interest PLUS whatever the predicted increase in prices would be. Adding the 3.1 percent median increase above to the additional interest they would pay, that’s 26.1 percent.
$250,000 purchase price today appreciates 3.1 percent to $257,750 in 2019. 80 percent loan amount is $206,200
|Interest rate||4.83%||5.83%||1.00 %|
|Monthly payment||$1,088||$1,216||$128 per month|
|Total annual payment||$13,056||$14,592||$1,536 per year|
|Annual income required for front-end ratio (28% maximum for conforming loans)||$46,629||$52,114||$5,485|
|Total interest for 30 year mortgage||$185,516||$231,725||$46,209|