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Rising Interest Rates For The First Time Home Buyer
The housing market has been in a unique balance over the last few years. Even as inventory has remained low—usually a clear sign of a sellers’ market—buyers have seen high affordability due to historically low interest rates. Now, 15 of the 17 policymakers for the Federal Reserve (which controls interest rates) have publicly stated that they believe rates will increase late this year or early in 2016.
There is no question that first-time buyers would be the group most affected by increased mortgage interest rates. Here are insights you can use if you’re a first-time homebuyer in Minnesota or western Wisconsin.
How affordability works
As interest rates increase, the buying power of a borrower is lessened. Let’s say a homebuyer has $1,200 to spend on their monthly mortgage payment. If rates are 3.92 percent and the borrower secures a 30-year fixed conforming loan, their loan could total around $250,000. The monthly mortgage payment in these conditions would be $1,182.
Now let’s say rates rise 1 percent to 4.92 percent. With all the mortgage terms remaining equal, the borrower would pay $1,197 for a loan totaling $225,000. That’s a difference of $25,000, or 10 percent, in buying power.
This matches the sentiments of lending experts who agree that if current rates increased 1 percent, buyers would lose 10 percent of their purchasing power.
Why first-time buyers will be affected most
Many first-time buyers do not have a large down payment, and government and private lenders have changed their standards in order to accommodate these high earners with minimal savings. FHA loans can now be secured for as little as 3.5 percent down, while conventional (private) loans have a minimum of 3 percent down.
While these new minimums have prompted many first-time buyers to enter the market, it also means these buyers are relying heavily on financing. If rates were to rise 1 percent, most first-time buyers would not be able to increase their down payment to make up the 10 percent difference in affordability. If rates increase, their only choice will be to lower their home buying budget.
The silver lining
It’s easy to be frustrated by the predictions of rising rates, but the reality is that our local market is still a great place to buy. Keep in mind that:
Minneapolis was recently ranked as one of the 10 best markets for millennial buyers, according to the National Association of REALTORS
First-time buyers can apply for down payment assistance on many homes in our area, which can offset the stress of a rate increase
Once you put your mind to it, saving a down payment can be achieved relatively quickly. 69 percent of first-time buyers reported it took them less than 18 months to save a down payment
Even if mortgage interest rates increase to 5 percent, that is still very low compared tohistoric highs of 16.63 percent in 1981
Getting ready to buy
Prepping to buy your first home is an exciting time and getting pre-approved is the best step you can take to start the process. A pre-approval will tell you the loan amount you will qualify for, allowing you to set a responsible budget (and expectations) as you begin looking at properties online and in person.
Don’t forget to look at #BuyerInsights on Twitter, Facebook, Instagram and YouTube for more insights you can use to navigate the first-time home buying process.