…what you need to know with increased rates right around the corner
Maybe you’ve been keeping up on economic news. Maybe you haven’t. Either way, one of the most discussed financial news stories this fall is about the Federal Reserve Bank (or the Fed) raising their interest rates.
Let’s start with the basics
The Fed sets a benchmark interest rate that, essentially, establishes how much it costs banks and other lenders to loan money. After the economic crash in the early 2000’s, the Fed lowered their benchmark rate to infuse more money into the economy. A lower rate means it is easier to lend, and subsequently borrow, money.
The result? A higher availability of “cash” in the hands of consumers and business owners. The lower the Fed’s benchmark rate, the lower your interest rate, as a consumer, will be.
So, the purpose of lowering the benchmark rate is to, ideally, stimulate the economy. The low rate set by the Fed nearly 7 years ago has assisted in the resurgence of the housing market, as well as the U.S. economy in general.
In December of last year, the Fed did raise their rate for the first time in 7 years to 0.50% with the intention to raise rates multiple times throughout 2016. The economy, however, has not been growing at the rate Fed officials initially anticipated. Consequently, the Fed has not raised their rates at all this past year, keeping their benchmark rate at 0.50%.
Why is this important to discuss right now, then? Well, the Fed will be raising that rate again, and soon. Fed officials will be meeting again, this month, to discuss raising their rate. Even if it does not happen in December, it is fairly certain they will be raising their rate in early 2017.
Now what does that mean for you?
You may be thinking- a 0.50% to 1% increase in the Fed’s benchmark interest rate isn’t that much. And, to some extent, you are correct. But how that number translates to your interest rates is much different.
Currently, the average interest rate for a 30-year fixed mortgage is at approximately 4% with the Fed’s benchmark rate is at 0.50%. When the Fed raises their rate, even by just 0.50%, the translation to your “real” interest rate is much more dramatic.
So, let’s talk implications
For simplicity’s sake, let’s say the Fed increases their benchmark rate and, as a result, the average interest rate for a 30-year fixed mortgage jumps from 4% to 5%.
*these numbers were chosen to provide a concrete example of how increased interest rates can affect your overall mortgage payment
Now, let’s say you are looking at a $100,000 mortgage, with a monthly payment of $500. At a 4% interest rate, you are looking at paying approximately $2,000 in interest per year- totaling at $72,000 after 30 years. At a 5% interest rate, with the exact same mortgage and monthly payment, you are looking at paying approximately $3,120 in interest per year- totaling at $93,000 after 30 years.
That’s a difference of $30,000. Even though interest rates may have only increased by 1%, you are paying significantly more over the life of your mortgage.
You can still buy a house
…You just need to be aware of how a higher interest rate will affect your situation. The $100,000 home you were initially looking at may be a little too much “house” for you to afford. If your paying an additional $30,000 in interest over the life of your loan, it may take that house out of your price range.
On the other hand, if you can still afford the $100,000 home, it is essential to recognize that you will be paying more over the life of your mortgage with an increased interest rate.
If you are planning on buying in 2017, factor an increased interest rate into your plans and your budget. The last thing you need is a surprise (especially one of that magnitude) as you are trying to finalize a purchase.
Now is the time! Talk to your lender, get your paperwork in and secure a lower interest rate immediately. For refinancing options, you should contact your lender so they can provide specific details for your situation.
by Natasha Mason