Unless you live under a rock, you’ve most likely noticed a barrage of headlines talking about rising mortgage interest rates. It’s not much of a surprise really, as it’s the Federal Government’s only means of attempting to curb skyrocketing inflation, as well as funding our government. Thing is, not many fully understand the effect that even one percent increase has on purchasing power. In this case, purchasing power refers to a person’s ability to borrow money.
To put things into perspective, I’ve crunched a few numbers below based on rates we’ve seen over the last 4 months. The example you see is based on a purchase price of $1,250,000. Let’s do some math, shall we?
Purchase Price= $1,250,000
Down Payment = $250,000
Principal Loan Amount= $1,000,000
- In January, 30 year rates were around 3%. In this case, your monthly payment with principal and interest on a qualified loan would have equaled $4,214.
- In February, rates moved up to around 4%. Your monthly payment then would have equaled $4,774 (+$560 / month).
- In March, rates jumped up again to around 5%. Your March monthly payment would have equaled $5,368 (+$1,154 / month).
- Finally, April’s rates hit close to 6%. Your most recent monthly payment would likely be $5,995 (+$1,781 / month).
That means a 3 “point” increase created a 32% monthly increase on your mortgage payment. This is not even including property taxes, HOI, H.O.A, etc…
Now that we’ve covered basic affordability, let’s take a moment to look at what you’d need to earn to actually qualify for this loan.
Since we’re talking hypotheticals here, let’s just say that you have no other debts, and you live for free inside Splash Mountain at Disneyland. Typically, the banks want your total payments to be no more than 43% of your gross monthly income, and the examples below are based on that notion.
- In January, you could have purchased this home ($250,000 down) with a $1,000,000 loan, so long as your monthly household income was at least $13,300.
- Come February, you’d need an income of $14,600 (+$1,300) to qualify for the same terms.
- In March, your monthly income would need to be even higher at $15,975 (+$2,675), all for the same loan amount of $1,000,000.
Hopefully you have a very generous boss!
Now let’s just say that your income didn’t jump up as fast as rates have over the last few months. In this example, we’ll look and see how your purchasing power changes as mortgage rates increase.
- We’ve already established that a monthly income of $13,300, at January rates (3%) would likely secure your $1,000,000 loan.
- Rates rising to 4% drop your qualified loan amount to $864,802. This would increase your required down payment by 54% from $250,000 to $385,200 to afford the same house.
- In March (same income), with the interest rates hovering around 5%, the amount of your qualified loan would drop to ~$785,000. This means you would have to come up with a $465,000 down payment to afford the same property.
There is a lot to digest here, but the core aspect to focus on is purchasing power, and how quickly it can shift as mortgage rates climb. Of course, it’s not always this straightforward. There are also a variety of different loan programs available (Adjustable Rate Mortgage, for example) that can increase your ability to borrow in some instances. If you’d ever like us to “do the math” and run some numbers for your specific situation, feel free to reach out anytime.
Good luck out there,
-Dave-
David Begg
Broker / Owner
NMLS#339449
(760) 717-3529
NewDeck Capital
NMLS#1960626 | DRE#02105808
*The examples in this article are hypothetical. All loans are subject to credit approval. Interest rates are subject to change daily and without notice. Current interest rates shown are indicative of market conditions and individual qualifications and will vary upon your lock-in period, loan type, credit score, purpose and loan to value. This letter is not a solicitation to list your home if you are currently working with another agent.