With the Fed raising interest rates in 2022 at a pace not seen since the 1980’s and the projections that they will continue to raise them to 5.25% - 5.50% (currently they are 4.50% - 4.75%) by the end of this year, you may be wondering, “how has this affected my payment on a mortgage or my buying power if I want to keep my payment the same”. Well let’s look at an example:
Let’s take a look at the following buyer:
Price range $450,000 to $550,000
20% down conventional mortgage amortized over 30 years.
Interest rate: let’s see how each quarter point in interest rate hike affects the payment and buying power. Today, the average rate is 7.347% however, just two week ago rates were at 6.25%. Lets look at the difference between 6% and 6.25%, since this is where most financial institutions feel they will settle to in 2023.
With a purchase price of $450,000 your monthly principal and interest (PI) payment will be $2,698 at 6%. If they raise the interest rate .25% to 6.25% your PI payment changes to $2,771, a difference of $73 per month. At a $550,000 home your numbers are $3,298 (6%) and $3,386 (6.25%,) a difference of $89 per month. Now, with a quarter point change, this does not seem catastrophic but if the interest rate rises a full 1% like it recently did, now we are talking a $296 - $362 per month change in your payment which can start to sting. In this price range you can estimate your change in payment will be approximately $80 per .25% change in interest rate.
So how will it affect your buying power if you want to keep your payment the same. Using the above example, let’s say we want to have our payment no higher than $3,298 per month (This is the payment at 6% for a $550,000 home). If there is a .25% change in interest rate, you will have to lower your top price by $14,441 to a top price of $535,559. If the interest rate changes by a full 1%, you will lose $54,356 in buying power, to a max price of $495,644 - Ouch! Again, you can estimate for each .25% change in interest rate your buying power will drop by about $14,000 in this price range.
The good news, we may be at our peak for mortgage rates this year. They will continue to bounce around but most predictions believe it will settle to 5.5% to 6.25% for the average 2023 mortgage rate. Also note that the Federal Reserve raising interest rates does not necessarily mean mortgage rates will rise but in the end that is often the result.
We have also noticed mortgage companies coming up with creative solutions to relieve some of the pain such as buying down the rate for the buyer for the first year. First time home buyers are also getting some benefits from some of the first time home buyer programs that are out there.
In the end, none of this means you can’t buy a house, unless you are only qualified for the lowest price homes and the rates are pricing you out of this market. It just means you may need to adjust your expectations and then plan on a future refinance when rates come down, which many mortgage brokers believe will happen.