Recent studies have shown that interest rates on 30-year mortgages have hit a high not reached since the beginning of the previous decade.
The statistics have revealed that the average rate for low-risk, fixed-rate home purchase loans hit 5% as of the middle of April 2022. This was a steep increase from the 4.2% rates in March and 3.1% at the end of last year.
The average interest for 15-year, fixed-rate mortgages also jumped from 3.4% in the middle of March to 4.2% in mid-April.
Example of How the New Mortgage Rates will Come into Practice
Let’s say that you’ve just purchased a house for $500,000, with a 20% downpayment. Therefore, your down payment was a figure of $100,000, and you’re requiring a mortgage of $400,000.
Assuming you go for a fixed-rate 30-year mortgage, the new rise in the mortgage rates means that the monthly payment on a $500,000 house like the one you’ve just purchased would be around $500 more a month than it was at the end of last year.
This higher rate also comes on top of a rise of over 30% in US house prices over the past two years.
Why Do Mortgage Rates Change?
Mortgage rates have been on a general upward trend for over a year and in the last few months, they’ve taken a big jump higher.
As the economy recovered from the COVID-19 pandemic, low interest rates fueled increased spending. At the same time, supply chain issues created shortages for items like microchips, building supplies and certain food items.
These factors combined to drive inflation higher as supplies failed to meet demand. According to the latest Consumer Price Index (CPI), 12-month inflation hit 8.5% in March, the highest it’s been since 1981.
Adding to the inflationary pressures is Russia’s invasion of Ukraine, which has disrupted some financial markets.
Generally speaking, as the inflation rate rises, this invariably results in higher mortgage rates.
What’s the Difference Between a 30-year and 15-year Fixed Rate Mortgage?
When Americans refer to getting a mortgage, you would typically assume that they will be going for the 30-year fixed rate mortgage, as this is the more common variant.
However, it is important to understand the difference between the 15-year and 30-year mortgage as you may be more suited to one or the other.
In a 30-year mortgage, the amount owed to your lender shrinks much more slowly. Effectively, the homebuyer is borrowing the same amount of money for more than twice as long.
The higher the interest rate, the greater the gap between the two mortgages. When the rate is 4%, for example, the borrower actually pays almost 2.2 times more interest to borrow the same amount of principal over 30 years compared with a 15-year loan.
Thus, the main advantage of a 30-year mortgage is the relatively low monthly payment. There are, however, other advantages, including;
- The lower payment may allow a borrower to buy a higher value house than they would be able to afford with a 15-year loan, as the same monthly payment would allow the borrower to take out a larger loan over 30 years.
- The lower payment allows a borrower to build up savings.
- The lower payment frees up funds for other goals.
Whether you opt for a 15 or 30 year mortgage may appeal to buyers and homeowners for different reasons, including credit score, size of the mortgage, perception on rate changes and whether they plan to pay off the mortgage in full.
