When buying a home, many people take out mortgage loans to pay for the purchase. 2021 saw 23.3 million home loan applications in the lending industry. While the federal interest rate, which rose another .75% to between 3% and 3.25% in September 2022, affects home loan rates, many other factors play a part in determining your potential mortgage loan interest rate.
Explore five critical factors that affect home loan rates, including your credit score, loan type, and interest rate type, to help you understand mortgage rates and obtain a beneficial loan rate with T&I Credit Union.
What is a Home Loan Interest Rate and Why Does It Matter?
When you take out a home loan, you borrow a large sum of money that you will pay back over a set time. For mortgages, this is typically a 15 or 30-year loan term.
With home loans, the property functions as collateral, against which you pay principal and interest over time. The principal is the amount you borrow from the lender, while interest is the extra payment given in exchange for the use of the loan.
Lenders usually calculate interest rates as annual percentage rates (APR), which include the mortgage rate and additional fees and costs. They calculate interest against the amount of principal you have left to pay off.
Your home loan interest rate matters because a higher rate can cost you several thousand dollars over the life of the loan. For example, if you took out a 30-year mortgage for $350,000 at 3%, you’d pay approximately $181,221.08 in interest over those three decades (barring additional factors such as a downpayment, homeowners’ insurance, or other taxes or fees. At 5%, you’d pay closer to $326,395.24 in interest over 30 years.
Your mortgage rates also affect your monthly mortgage payment. Higher interest typically means a higher monthly payment, which affects the loan’s affordability for you over the loan term.
Factors That Affect Your Mortgage Loan Rate
When you seek a mortgage loan from a lender, they may offer higher or lower interest rates based on several factors. Primary influences on the terms and conditions of your home loan include your credit score, down payment amount, loan term, loan type, and interest rate type.
Your Credit Score
Usually, the higher your credit score is, the lower your home loan interest rate will be. Your credit score may also affect the loan amount a lender approves you for.
Lenders look at credit scores as a way to judge the financial credibility of buyers. Most lenders consider a score of about 700 or more as good and will offer a lower interest rate. However, some home loans, such as those provided by the Federal Housing Administration (FHA), may offer approval for scores of 500 or above.
Some ways to improve your credit score include making payments on time, using a secured credit card, paying off your monthly balance, and spending no more than 30% of your credit limits.
Down Payment Amount
Down payment is a borrower’s initial payment when taking out a loan. Much of the time, a larger down payment means a lower home loan interest rate. Like with a high credit score, a large down payment is a sign of less risk to the lender.
As a borrower, if your down payment is relatively low, you may have to take out private mortgage insurance, which protects the lender. Usually, if your down payment is less than 20% of the total cost, a lender will ask you to take out mortgage insurance. Mortgage insurance costs will add to the overall figure you pay each month.
Mortgage insurance will factor into your overall cost, so make sure you consider it when calculating how much you can afford to borrow. You may also want to calculate closing costs and other fees and taxes, such as yearly property taxes, to your final loan amount.
Loan Term
The length of your mortgage, also known as the loan term, is a significant factor in calculating your interest rate. According to CBS News, in 2021, the average annual interest rate on a 30-year mortgage was 2.96%, while the average rate was 2.27% on a 15-year loan.
Shorter loan terms typically mean higher monthly payments because you pay off the loan more quickly. This approach is not feasible for everyone, but it can save you more in the long run, overpaying lower monthly payments at a higher interest rate for a longer term.
At T&I Credit Union, we currently offer 15-year mortgage loans for 4.25% and 30-year home loans at 4.99%, based on credit approval.
Loan Type
Generally, three types of home loans are available to borrowers: conventional loans, government-issued loans, and FHA loans. Conventional loans are provided by private lenders like banks and credit unions and are not a part of a government program. Lenders set competitive rates, which vary based on their base mortgage rates.
Government-insured loans, such as Federal Housing Association (FHA) loans, are issued by private lenders but secured by the government. FHA loans offer approval for those with lower incomes and credit scores. Rates on these loans vary based on the private lender, with rates as high as 7% as of October 2022.
Specialty loans offered by the government include those given by the Department of Veteran Affairs (VA loans) and the Department of Agriculture. You must have a certificate of eligibility from the VA to obtain a VA loan and still meet lending requirements from the government; however, 90% of these loans don’t require a down payment, which can help you get into a home if you are a U.S. veteran.
Interest Rate Type
There are three types of mortgage interest rates: fixed, variable (also known as floating), or adjustable rate. Fixed-rate loans lock you into a rate for the entire loan term duration unless you refinance. With a fixed-rate mortgage, your interest rate and your monthly payments don’t change.
With variable rate loans, you pay one rate at closing, with the expectation that your rate will change over time. With this type of loan, your interest rate may vary, but your payments remain the same.
Adjustable rate mortgages (ARMs) increase when interest rates rise in the market. However, with this type of loan, your payment amounts also change with your interest rate.
Does Inflation Affect Mortgage Rates?
Inflation, the economy, and federal interest rates affect your mortgage rate as a baseline factor. Generally, lenders must ensure the interest rates they offer on their products and services give them a return on investment that overcomes the rise in prices.
The Federal Reserve sometimes raises interest rates to combat inflation, influencing lenders’ mortgage rates. In 2022, inflation rose by 10.3%, causing the Federal Reserve to increase interest rates and mortgage interest rates around the country.
Adjustable rate mortgages (ARMs) increase when interest rates rise in the market. However, with this type of loan, your payment amounts also change with your interest rate.
Does Inflation Affect Mortgage Rates?
Inflation, the economy, and federal interest rates affect your mortgage rate as a baseline factor. Generally, lenders must ensure the interest rates they offer on their products and services give them a return on investment that overcomes the rise in prices.
The Federal Reserve sometimes raises interest rates to combat inflation, influencing lenders’ mortgage rates. In 2022, inflation rose by 10.3%, causing the Federal Reserve to increase interest rates and mortgage interest rates around the country.
Mortgage Loans at T&I Credit Union
At T&I Credit Union, we offer multiple home loan options to meet your refinancing or home improvement needs. Choose from refinance home loans over 15 or 30 years at under 5% APR or home equity loans up to $125,000 at 4.75%. We also offer home improvement loans of up to $20,000 for 36, 48, or 60 months and under 8% APR.
We offer discount points to our members with excellent credit and are happy to assist you throughout the loan application process. Visit our home loan page to apply for one of our home loan products, or contact one of our loan representatives at (248) 588-6688 for more information.
