The Local Source for News and Information Since 1980
With all the changes and moving parts associated with the new presidential administration, many of us are finding it difficult to keep up. Since President Trump's inauguration on January 20, everyday we have been challenged to deal with the impact of changes to the status quo. Time will tell how impactful these changes will be to each of us, if at all. Mortgage rates have been on a roller coaster since the election. They moved up in late December and early January, and as of early March they have dropped back to pre-election levels. President Trump’s on again, off again tariff strategy is creating a climate of uncertainty that will manifest itself in higher rates as the higher cost of imported goods becomes a reality. How much and when interest rates will go up is yet to be determined. For now, they are hovering in the 6.75 percent to 7.50 percent range.
As the snow and cold weather of January and February recede the inventory of homes available for sale should increase. As homeowners who have wanted to sell and move become more conditioned to the fact that interest rates will not be going down in the near future, this pent up supply of reluctant sellers will move forward with listing their home with a 3 percent mortgage and use the equity for a down payment on a new home and pay 7 percent. This is a tough pill to swallow when you see how much the difference will be in mortgage payments.
If you purchased a home 5 years ago for $250,000 and used the USDA program with no down payment at a rate of 3.5 percent for 30 years, the principal and interest payment is $1,122. After 5 years of payments your mortgage balance would be $224,000. Assume you sell your home for $375,000 and pay $20,000 realtor commissions and other costs of sale. Your equity available to go toward the purchase would be $151,000. So, $375,000 sale price minus $20,000 (cost of sale) minus $224,000 (mortgage). Assuming closing costs on new home will be $13,000 will leave you with $131,000 for a down payment on your new home.
Assume you purchase a home for $400,000 and make $131,000 down payment and borrow $269,000. At 7 percent for 30 years your principal and interest payment will be $1,789 or $667 more than you were paying on your previous home. This “lock in effect” has been the primary reason that there has been very low inventory of homes on the market. Only those sellers who had to sell for a compelling reason were putting their homes on the market.
Although rates will never reach levels seen three to four years ago there are options to lower the interest rate. The most obvious is paying points (fee) to lower the interest rate. A point equals 1 percent of the amount borrowed. A general rule of thumb is that for every one point you pay, your interest rate is reduced .25 percent. In my above example the payment on $269,000 at 7 percent is $1,789 but the payment would drop to $1,744 saving $45 per month at 6.75 percent if you paid one point. So, you spend $2,690 more in closing costs for the benefit of saving $45 per month. Is this really a good financial move? How long will it take for me to recoup my $2,690 investment at $45 per month. The answer, 60 months, or 5 years.
I understand that $45 may seem like a lot for some borrowers, but I would argue that it probably isn’t. How significant is that $45 when you are going to be paying If you spend (1 point = 1 percent of loan amount)? The payment would be $44 lower at $1,731. Paying one point, ($2,670) to save $45 does not seem to be a lot. Especially when the payment without taxes and insurance is $1,776. Your payment is going up $667. Will lowering the payment by $45 really change your lifestyle? Not really.
Plus, it is highly probable that you will not have this mortgage in two to three years, especially probable you will not have it in five years which is your breakeven point.
Other options for lower interest rates are Adjustable-Rate mortgages (ARMS) or Hybrid Adjustable-Rate mortgages where the rate is fixed for a specific period of time then adjusts based on a predetermined index and margin. The adjustment period can be every year or every three or five years. There are also ARMS where the rate is fixed for three, five, or seven years and then adjust every year thereafter. These Hybrid ARMS will have a lower initial interest rates then those that adjust every three or five years.
When considering an ARM, the interest rate is critical. They must have a lower interest rate significant enough to justify the risk a borrower takes by not having a fixed rate. If the difference in the rate is not significant enough the fixed rate is your better option.
