Interest rates are above 6%. Here’s how much extra interest you’ll pay on a $500,000 home
Home buyers expect bad news on interest rates.
- The average 30-year fixed mortgage rate started the year at nearly 3%.
- In September, Freddie Mac reported the same rates above 6%.
- The difference could mean hundreds of thousands of dollars in interest over the life of a mortgage.
It looks like new home buyers will face additional headwinds in the coming months, with rates rising above 6% in September. Mortgage rates are at their highest level since November 2008. For buyers who have waited until now to borrow, the price difference could amount to hundreds of thousands of dollars in interest.
Inflation, economics and monetary policy
It only took 12 months for mortgage rates to double, leaving many wondering how we got here. When it comes to mortgages, a variety of factors can affect rates, including inflation, economic growth, and monetary policy.
Inflation has been the headline act for most of 2022 and is hitting Americans in their budgets. However, while inflation generally follows periods of strong economic growth, the current economic environment appears to be stagflationary. In stagflation, inflation is high even as the overall economy slips. When inflation is high, mortgage lenders try to protect the purchasing power of their future dollars by raising rates. However, when economic indicators are poor, mortgage lenders prepare for lean months by raising today’s rates even further.
Additionally, the Federal Reserve is trying to rein in inflation by leveraging some of the tools in its toolbox. These tools include what is known as the federal funds rate, the rate at which banks borrow from each other in the short term. By raising this rate, the Fed makes borrowing more expensive for banks, in theory slowing credit demand and inflation. When it costs your bank more to borrow money, you can bet the price will be passed on to you.
Put it into practice
Now that we understand why rates have risen over the past nine months, let’s illustrate with an example using The Ascent’s mortgage calculator. Say you buy a house and take out a $500,000 mortgage to finance your purchase. What would happen if you bought now rather than at the beginning of the year?
Currently, the average 30-year mortgage rate is 6.02%. At this rate, a $500,000 mortgage would generate $581,971 in interest over the 30-year life of the loan. However, if you had taken out the same loan at the beginning of the year, your interest rate would have been only 3.22%. During the term of the mortgage, only $280,017 of interest would accrue. By waiting nine months to take out a loan, you’ll end up paying over $300,000 more for the same mortgage!
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A perfect storm of inflation, economic stagnation and rising federal funds rates made it difficult to get a mortgage. While the future of lending is uncertain, the past is clear: Borrowing at the start of the year was the right choice for future homeowners.
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Mortgage rates are at their highest level in years and should continue to rise. It’s more important than ever to check your rates with multiple lenders to get the best possible rate while minimizing fees. Even a small difference in your rate could reduce your monthly payment by hundreds.
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