Understanding Interest Rates

Depending on your perspective, interest rates determine your cost of borrowing money, or on the flip side, the compensation for lending money. If interest rates were sky high, few people would borrow, and if they are very low, few would lend, so it’s important to our economy that interest rates remain at a level that encourages people to borrow, to lend and to spend. There are countless factors that contribute to interest rates. Some of the key inputs that determine the interest rate you will receive on your mortgage are listed below.

Inputs to your interest rate which you CAN control

  • Credit Score: The higher your FICO score the lower your interest rate
 
  • Loan to Value: The lower your loan to value ratio the lower your interest rate. The more equity a property has the safer the loan is for the lenders.
 
  • Loan Type: Loans with government sponsored insurance (FHA) or guarantees (VA) typically have lower rates because of the margin of safety the insurance or guarantee provides.
 
  • Occupancy: You get the best rates with an owner-occupied loan, followed by a 2nd home and you get the highest rates on an investment property. The rational is that if you were to get into a financial jam, you would stop paying for your investment property before your primary residence.
 
  • Duration: Lenders will provide a lower interest rate on a 15-year loan vs. a 30-year loan because the lender will get their money back sooner with a 15-year loan.

Before we move on to inputs that we cannot control, there are two inputs that have no impact on your interest rate which might surprise you: your income and your assets.

Lenders look at your income to figure out if the borrower has enough income to qualify. You might think that you should get a better rate if you have a lot of extra income, or if you have significant assets over and above what is needed for the down payment, but that is not the case.  Income and assets impact your ability to qualify for a loan but they do not impact the interest rate you receive on your mortgage.

Inputs to your interest rate which you CAN NOT control

  • Inflation: When a lender has the expectation of future inflation, they will demand a higher return on their money (higher interest rate) due to the expectation for a loss in that money's future buying power.
 
  • The Fed: The Fed, as the U.S. Federal Reserve is often called, sets the very short-term interest rates (federal funds rate), they buy and sell longer term bonds on the open market, and they set minimum reserve requirements for banks which all influence interest rates.
 
  • Strength of the Economy: A strong economy can lead to inflation. This typically causes The Fed to implement policies that will increase interest rates to slow a strong economy down. Conversely, when the economy is slowing, The Fed will implement policies to lower interest rates to aid a recovery to the economy.
 
  • World News and Events: If you wanted a general rule to determine how news and events impact your mortgage rate it would be, “Bad News is Good News & Good News is Bad News". Anything good, like strong earning, a good jobs report, or low unemployment will lead to higher rates (BAD news). Any type of news that you would normally interpret as negative, such as a poor jobs report, political instability, war, or a low GDP reading would all lead to lower rates (GOOD news).

Our philosophy is to control what you can control. The number one thing you can control, and probably the most influential factor to your rate listed, is your credit score. Be sure to make all of your minimum monthly payments on time and we at Harris Mortgage will handle the task of monitoring all of the other forces at play in the interest rate world and guide you through the mortgage process safely and with confidence.