How Can I Lower the Interest Rate on My Mortgage?
Homebuyers trying to combat the pressure of rising interest rates don’t have to settle for the first number they see.
While interest rates continue to rise, talk to your personal loan officer about options like adjustable rate mortgages (ARMs) or buying mortgage points to lower your interest rate.
Understanding the difference between the two is critical, as is knowing which is right for you.
What is an ARM?
When considering a mortgage for your home, you’ll have the opportunity to lock in the current interest rate with a fixed-rate mortgage. That means the lowest interest rate you can purchase your home for will remain the same on your mortgage for the length of the loan (15 years, 30 years, etc.). One of the benefits is that you can take advantage of lower interest rates, and the rate on your mortgage won’t rise if national rates go up. However, if interest rates lower, yours won’t go down, either.
An adjustable-rate mortgage has a fixed interest rate for a shorter period of time, and then it adjusts to a benchmark like the 1-year treasury yield or the London Interbank Offered Rate. This means the rate could go up or down after the period ends. For instance, a Hybrid ARM can be three, five, seven or 10 years with a rate adjustment each year after the fixed rate period ends.
So, if you secure a rate of 4%, the new rate when the ARM ends could be higher or lower depending on the movement of the benchmark rate.
Who Might Want an ARM?
Adjustable Rate Mortgages are beneficial for homebuyers that move frequently.
If you are buying in a market for a job relocation that you know could send you somewhere else in a few years, an ARM could help offer the lowest possible rate when you purchase your home.
An ARM could also be beneficial for first-time homebuyers who are purchasing a smaller, “starter” home now with the expectation that they’ll buy a bigger home in a few years. A five- or 10-year ARM in this situation could help with smaller payments for the short term while the homebuyer secures more income with a promotion at work or after finishing a degree program.
For homebuyers who are making a long-term commitment, ARMs are a higher-risk proposition. It’s likely that over the length of a long loan, the interest rate will rise higher than what you could get for a conventional 30-year loan. For instance, an arm rate of 4% could go up to 6% if the index it’s tied to increases.
One ARM strategy for disciplined buyers is to refinance during the introductory period to a fixed-rate loan if the rate is better than what you have or it’s a rate you can live with long term.
ARMs save homebuyers money upfront and allow them the flexibility to change their loan terms when the ARM runs out. For some buyers, getting an ARM is based on their personal income projections. They might need the extra cash flow initially, but they know that in a few years, they’ll have more money coming in.
Buying Interest Rate Points
A buyer looking at a long-term fixed-rate mortgage who wants to lower their interest rate can do so by buying points. Buying interest rate or mortgage points means you will pay upfront to cover the cost of a discounted mortgage and lock in a lower interest rate.
For instance, if you want to lower your interest rate on a $240,000 loan with a 6% interest rate, you could buy a point that will reduce the interest rate by ¼ point to 5.75%. That point costs 1% of the loan, or $2,400.
If the payments for the loan with a 6% rate are $1,439 per month, they drop to $1,401 per month with the point and the lower rate.
Who Might Want to Buy Down Their Interest Rate?
How do you know if it’s worth it to buy points on your mortgage? It depends on how long you plan on staying in the house.
In our scenario with the $240,000 loan, the buyer gets their money back roughly after nine years. Take the cost of buying the point ($2,400) divided by what you’ll save per month with the lower rate ($38 per month) to determine how long it will take to see a return on the additional cost of the point (63 months or a little more than five years).
A buyer who plans to stay in their home for five years or longer could see the benefits of buying points. When considering the benefits of buying down your interest rate, also decide how else you’d want to spend that money. Would the $2,400 be better invested in the stock market or purchasing furniture for your new home?
Should I Seek to Lower My Interest Rate?
All homebuyers are looking for the lowest interest rate possible, so they aren’t paying high mortgages monthly. When interest rates are on the rise, many buyers will do what they can to artificially lower their own rates.
ARMs and buying interest rate points are two options available to buyers and anyone considering refinancing a loan. However, with a loan refinance, you also need to add in many closing costs to determine if refinancing for a lower rate will allow you to see the savings you are looking for and recoup the investment of the refinancing costs within three to five years.
Your personal loan officer can help you determine the best course for your situation and help you take advantage of rate fluctuations.
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