Tips for Buying a House When Interest Rates Are High
Anyone shopping for a home in 2023 faces an unfortunate truth: Mortgage interest rates have risen over the past year. And when interest rates rise, so do the total costs of buying and owning a home.
Housing market pundits often point out that mortgage rates are still historically low even with this recent rise. The average rate since 1971 is 7.76%, according to Freddie Mac, and it’s been 40 years since rates spiked above 18% in the early 1980s. But historical context may seem like a small consolation to someone whose savings goals have been based on the low interest rates of the early 2020s.
Yet, this may still be the time to strike. Many expect mortgage interest rates to level off and possibly decline later in 2023. But some experts predict that home prices will hold steady, or even appreciate in some markets, throughout the year. Wait too long, and you may be priced out of the home you want, regardless of the mortgage interest rate.
The good news? You can make buying a home in a high interest-rate environment a reality while having a monthly payment you can comfortably afford. Below are 9 tips for you to consider when buying a home when interest rates are relatively high:
Get an adjustable-rate mortgage (ARM)
The introductory interest rate for an ARM (also called a variable rate mortgage loan) is typically a percent or two lower than the rate available for a conventional 30-year fixed-rate mortgage (with all other factors equal). The hitch is that after the introductory period ends — typically after five or seven years, depending on the terms of the ARM — the interest rate can adjust annually based on market rates.
This might make an ARM seem like a slightly riskier proposition. After all, who knows where the interest rates will be in five or seven years? But as Thomas Bullins, sales manager, AmeriSave Mortgage notes, the risk may not be as severe as it seems. “ARMs make sense for a lot of customers. The majority of people won’t stay in their mortgage for more than seven years. As people age, they tend to make more money, have more secure employment, grow their assets, and improve their credit. So many times they get into a better program, refinance the ARM into a 30-year loan, or just end up selling the house.”
Ultimately, an ARM is ideal if you plan to own your home for less than 10 years and you’re looking to have lower monthly payments during the first 5-7 of those years.
Get a fixed-rate mortgage loan with a shorter term
A fixed-rate mortgage with a 10-, 15-, or 20-year term will have a lower interest rate than a mortgage with a 30-year term. Of course, monthly payments will be higher with the mortgage loan amount being amortized over a shorter period of time. However, you’ll pay much less interest over the life of the loan.
AmeriSave’s Mortgage Payment Calculator allows you to compare average interest rates for fixed-rate loans with various terms. This example compares rates for a loan valued at $300,000 with a 20% down payment.
So, in this case, the borrower could save $188,460 by opting for a 15-year term instead of a 30-year term. If you can afford a higher monthly payment, opting for a shorter term is a great way to lower your mortgage interest rate and save money.
Buy mortgage points to lower the interest rate
If you have extra cash saved, you could consider buying mortgage points. With points, you pay a little more up front at closing in return for a lower interest rate. Each point is valued at 1% of your loan amount. So if you are closing on a $300,000 loan, one point will cost $3,000.
Here’s an example:
You take out a $300,000 mortgage with an interest rate of 7.0%. The lender offers to drop the interest rate to 6.5% if you buy 1.5 points. The points would therefore cost $4,500 ($300,000 * 1.5 * 1%), which you’d pay to the lender as part of your closing costs.
As you can see, the additional $4,500 in upfront costs result in savings of more than $25,200 over the life of the loan, thanks to the lower interest rate.
Points work best when you plan to be in the home for a long time — your lender can help you calculate the breakeven point at which you begin to reap the financial benefits.
“Buying points may not make sense if you plan to sell or refinance within a short period of time,” says Bullins. “But if you’re going keep the mortgage for the next 10 to 30 years, buying points will normally be a good financial move.”
Get a mortgage buydown
Similar to buying points, a mortgage buydown is another way to get a lower interest rate by providing more money up front to the lender. However, with a buydown, the interest rate is reduced for a short period of time — perhaps two to four years. What makes the buydown unique is that it is funded by money put into escrow by the party selling the home, such as a homeowner selling their house or a home builder selling new construction.
A mortgage buydown can be a way for a seller to “sweeten the deal” by making it easier for the buyer to afford the home.
“Actually, sellers, lenders, and even builders and realtors can use a buydown as an incentive,” adds Bullins. “They can offer it as a way to make themselves more competitive in a crowded market. And for two years, the customer will have a lower payment that is not available on any fixed product on the market today.”
Make a larger down payment
Making a bigger down payment will help lower your interest rate, as lenders will consider you a less risky borrower.
Using Google’s average-mortgage-rates tool, a 3% down payment on a $300,000 30-year fixed-rate mortgage earns a 7.556% rate, a 20% down payment earns a 7.078% rate, and a 30% down payment earns a 6.509% rate.
(Rates updated as of February 14, 2023.)
Another advantage to making a bigger down payment: you’ll most likely avoid having to pay for private mortgage insurance (PMI). Required when a borrower makes a down payment of less than 20% of the home purchase price, PMI protects the lender in the event the borrower misses payments or defaults on the loan. PMI premiums vary based on the loan amount but can add $125 – $250 per month (or more) to the cost of a monthly mortgage payment.
Finally, making a larger down payment simply reduces the amount of the mortgage loan you’ll need to buy a house. This ultimately lowers your monthly mortgage payment for the principal loan balance owed back to the lender.
Mortgage rates do vary by lender. Even a fraction of a point difference can provide significant savings. For example: A 30-year $300,000 mortgage with a fixed 6.75% interest rate will save the borrower $18,000 over the life of the loan compared to the same loan with a 7.0% rate. Isn’t that worth a little extra legwork?
Check out AmeriSave’s tips for shopping and comparing mortgage lenders so you can find the best deal for your financial needs.
Consult your wish list
Savvy homebuyers create a wish list, including high-priority “must haves” and lower-priority “nice to haves” as an aid when home shopping. Buying a home in a high-interest-rate environment may mean crossing off some of those lower-priority “wants” to find a lower-cost home.
Haven’t created your priority list? Check out our article on How to Find the Right Home.
Consider government-backed loan programs
If you qualify, a government loan program may lead to a lower mortgage interest rate. Loan programs from the Federal Housing Administration (FHA), Department of Veterans Affairs (VA), and United States Department of Agriculture (USDA) typically have rates that are a bit lower than those available with a conventional loan. They also tend to have more forgiving requirements for credit score, debt-to-income ratio, and down payment than conventional loans.
Get help from a real estate agent
Home buying is challenging enough when rates are low and buyers firmly control the market. Neither is the case in 2023. That’s why working with a real estate agent is even more critical. Agents can help you understand your mortgage loan options to help you get into a home at a payment you can afford. Beyond that, an agent can guide you through the process, from finding potential homes to buy within your budget, to communicating with sellers, to navigating the closing process.
“Working with those kinds of professionals is just going to set you up for success,” says Billard. “A great realtor can help create a great buying experience and help you find the home of your dreams.”
Yes, you can buy a house when mortgage rates are high
So while 2023 may not seem like an ideal time to buy a house, it’s not an impossible time either. Yes, rising interest rates may throw a wrench in your homebuying calculus. But by adopting a few strategies — such as the ones shown above — and discussing your options with your lender, this can be the year you get into the home of your dreams.
Check out the AmeriSave complete homebuying guide for more helpful information on buying a home.
Frequently asked questions: How to buy a house when interest rates are high
How can I buy a house with high interest rates?
There are several ways to either get a lower mortgage rate or mitigate the financial impact of a high rate. To get a lower interest rate, consider an adjustable-rate mortgage (ARM), a conventional mortgage with a shorter term, or look into buying points or leveraging a mortgage buydown. First and foremost, it’s important to get preapproved with a mortgage lender so that you know what options you really have.
Should you buy a house now with interest rates rising?
It may be tempting to wait to buy a house until rates eventually drop. But consider that home prices may still rise. “I think people should buy now,” says Thomas Bullins, sales manager, AmeriSave. “We expect the market to change and rates to go down this year. But we’re also expecting most markets to appreciate and continue to get more expensive.”
Keep in mind that when rates do go back down, homebuying demand is likely to rise. This, in turn, will likely increase home prices. And if rates do fall after you buy, you can choose to refinance your mortgage loan in the future.
Do higher interest rates mean lower house prices?
There’s typically an inverse relationship between mortgage interest rates and home prices. Rising rates usually lead to a cooling market and decreasing prices. However, the supply of homes and local market factors can also play a big role. As rates go back down, home prices will typically increase due to the higher demand from more homebuyers in the market.