mortgage financing and programs

When Mortgage Rates Rise 1%, Your Purchasing Power Falls By 10.75%

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Home Affordability Is Driven By Mortgage Rates

“Have you talked to a lender about how much home you can afford?”

If you’ve ever bought a home, no doubt your REALTOR® asked you that question, or you wondered it to yourself. It’s the starting point for practically every home search in this country.

It’s a variant of “For how much home have you been pre-approved to buy?”

These questions — although rote for REALTORS® — serve an important purpose for buyers. (1) They put boundaries on your home search, and (2) They establish a price range for the homes in which you can actually afford to live.

They also put undue focus on “purchase price” as the key variable in home affordability.

Purchase price has less to do with home affordability than you think.

The real key to home affordability is mortgage rates.

1% Rate Change = 10.75% Purchasing Power Change

Mortgage rates have more influence on home affordability than home prices.

If that seems strange to you, think about Q1 2011. Home affordability made all-time records that quarter. It wasn’t that home prices were suddenly lower than ever before. It’s that mortgage rates were. With each tick lower for rates, purchasing power increased.

The math works in reverse, too. Rising mortgage rates harm affordability.

Click here to get a mortgage rate quote.

As an it-could-happen-to-anyone example, a home buyer in the Washington, DC metro area is pre-approved at today’s rates for a maximum $600,000 home, assuming 20 percent down. This is his “purchasing power”.

  • The buyer shops for homes, armed with a $600,000 pre-approval.
  • While he shops, mortgage rates are rising. They rise by 1 percentage point.
  • The buyer finds a home for $600,000 and submits a bid.

Next, the buyer’s loan is denied by the lender. Rising mortgage rates zapped his purchasing power. For each 0.125% increase to mortgage rates, his maximum allowable purchase price fell 1.35 percent.

“How much home can I afford?” he asks the lender. Not $600,000, comes the reply.

“Today, you can afford $535,000.”

October 1 Changes In Purchasing Power

The above example is somewhat extreme.

It’s rare for rates to rise by a percentage point during the amount of time most people need to find and buy a home. We used the Washington, DC metro area as an example, though, for a reason.

Washington, DC and its surrounding regions are part of the government’s “High Cost” areas for home loans. The local conforming loan limit is $729,750.

After September, those limits change.

Starting October 1, 2011, in places like Loudoun County, Virginia; Arlington, Virginia; and, Montgomery County, Maryland, local conforming loan limits will be lowered $625,500, rendering loans in excess of that amount “jumbo”.

Mortgage rates on jumbo loans are often 1 point higher than for comparable conforming loans — and sometimes more. This means that, starting October 1, 2011, anyone whose mortgage will be “jumbo” will find themselves with 10.75% less purchasing power at least.

October is less than 3 months away.

Get Today’s Mortgage Rates And Stay “Pre-Approved”

Pre-approvals are helpful, but they’re just a snapshot in time. The answer to “How much home can I afford?” is proven to be different every single day.

You’ll see what rates are doing, and you’ll get a feel for how your purchasing power has changed since you first applied for a home loan.

Mortgage rates are off their best levels of the year. As they keep rising, your purchasing power will fall.

 
Posted in: financing tips, mortgage rates

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