A house you haven't fully paid for can be a liability, but what if you…
Debt is one of those necessary encumbrances you will be sure to encounter at least once in your life. You might finish your education through student loans or be capable of purchasing your needs through credit cards. Debt isn’t always a burden but a means to an end, especially if it helps you get closer to your goals. It is inevitable for many people to secure home loans if they want to fulfill their American Dream.
To get approved for personal loans, you must maintain good credit, and there are many ways that you can do this. You can easily keep a decent history by always paying your bills on time, by never going over the allowed limit on your credit cards, and by living within your means. If you can observe all these, you won’t just qualify for a high loan amount. You’ll also be able to set aside more money for life’s much bigger plans.
Most people start with less than average credit scores, and that’s perfectly normal! Credit history is something you build over time. But how do you know when your credit score is already good enough to let you afford the monthly payment for your preferred housing? What’s the minimum credit score needed that will give you the best deal in current mortgage rates?
Today, let’s learn about these and more as we help you navigate your way in this complex aspect of adulthood managing your mortgage. Are you ready?
Table of Contents
Before we dive straight ahead, it will be prudent for us to make sure you understand how the mortgage system works, especially when it comes to the interest rate. A home loan is a long-term commitment, so it is important to cover all your bases. In any case, you don’t want to hand over your money every month without taking the time to find out how exactly your mortgage rate was computed.
Say you find the house that you really want to buy, but you don’t have the cash to pay for it in full upfront. What you can do is apply for a home loan so that you can finance this real property by slowly paying for it monthly over a years-long period. With today’s technology, it is now even possible to go through the whole loan application process online, which is convenient during a pandemic.
Depending on the type of mortgage you might qualify for, you may or may not be required to make a down payment, but whatever amount you can pay at the beginning will represent your initial home equity. For example, if you can pay a 20% down payment at the beginning of the loan, you already have 20% ownership of your house, and the bank or the lender will own the remaining 80% you haven’t paid for.
Based on your capacity to pay, you can also decide whether you will get a 15, 20, or 30-year mortgage. However long the period you are approved for will become the life of the loan, wherein you’ll be paying the monthly principal and interest and mortgage insurance if applicable.
Annual Percentage Rate
The debt industry is first and foremost a business, so understandably, there will be other fees aside from interest involved. After all, the lender will also need to pay the loan officer, investors, and other overhead costs.
Unlike how the term sounds like though, the annual percentage rate of a mortgage does not completely pertain to the mortgage interest rates alone, so don’t be confused when looking at a 15-year fixed rate or 30-year fixed-rate tables. They will most of the time be labeled accordingly concerning the law, but you can’t always expect transparent marketing practices.
While the annual percentage rate / APR might be presented to look like the interest rate you’ll be paying for your loan amount, this is not exactly the case. For many lenders, the APR will include the cost of the loan to the business, which is why The Truth in Lending Act (TILA) was passed in 1968. Under the TILA, lenders are obligated to disclose the APR and what it covers so that borrowers are fully informed of the cost of the debt. Don’t be surprised if the APR quoted to you by lenders is a lot more than what you find when you research annual mortgage rates.
If the annual cost of the loan is expressed to look like a monthly interest rate, lender’s fees, estimated taxes, and insurance are also computed for closing the mortgage. This amount depends on your total loan amount, down payment, loan term, loan type, and even the property’s zip code.
To give you a better idea of the closing costs of a home loan, you can try this handy calculator from Bank of America.
Now that we have tackled APR and closing costs, it’s time to get to the nitty-gritty of mortgage interest rates. To discuss today’s mortgage rates, first, we need to learn about the two types of mortgages according to interest rate: the fixed-rate mortgage (FRM) and the adjustable-rate mortgage (ARM).
When your mortgage is locked with an unchanging interest rate for however long a period, you have an FRM. This type of mortgage is preferred by many borrowers because, in general, mortgage rates are subject to change without notice. They can go up and down depending on the flow of the economy. When you have an FRM, you are protected from unforeseen increases in fees that will otherwise significantly raise your monthly payment amount.
An ARM is the exact opposite of an FRM. However, where an FRM can shield you from paying the more expensive current mortgage rate, an ARM can help you weather an economy that sees a continuous drop in the interest rate common during a recession. With an FRM, your interest rate will remain stagnant unless you negotiate with lenders.
On the other hand, with an ARM, your interest rate will always be subject to change without notice since it depends on the prevailing index.
Now that we have a better idea of how mortgages work and what different rates mean, it’s time to find out what your loan options are depending on your current credit score.
Conventional Loans vs. Government-Backed Loans
Another way to categorize mortgages is depending on who guarantees your loan. To put it simply, if the federal government insures your loan, then you have a government-backed loan. Otherwise, you have a conventional loan. But as you’ll find out below, that’s not the only aspect where these two financial options diverge.
Government loans are also easy to identify. There are federal housing loans, VA loans, and mortgages offered to borrowers in rural areas. These options are made available for people whose credit histories might not be advantageous when looking at loan options. Fees are generally lower, and background checks are less stringent. Even first-time home buyers can be eligible for government loans with a credit score as low as 500.
As to be expected, the opposite is true for conventional loans. For private lenders, the higher credit scores, the better. To qualify for a traditional mortgage from a bank, you will need to score at least 620, and the higher you get from there, the better interest rate to be offered to you, whatever your proposed loan amount.
With all of this information in mind, you can check out this link from Bankrate, where you can find the current mortgage rates (interest rate and APR) for a fixed-rate loan, ARM, Federal Housing Administration (FHA) loan, VA Loan, and even Jumbo home loans.
It is important to understand that a low amount of interest is not always a good thing, especially if you will be spreading it out over a 30-year fixed-rate period. Even a higher interest rate for a shorter-term loan beats the cost of paying a low monthly payment for several more years. This is why if your credit score can afford conventional loan products and services, this is still recommended over the popular FHA loan or even the more convenient VA loan. While the latter options may charge you with little to no down payment due to the federal government’s guarantee, you’ll still be paying a higher sum until the end of your loan term.
Today’s Mortgage Rates
2020 was a generally abysmal year not just for business but for everyone. It was an election year and the pandemic period rolled into one. Rates and fees hit record lows, although the purchase prices of homes continued to rise. Many U.S. citizens opted to leave capital cities for a less populated zip code.
According to Bankrate, however, the National Association of Realtors predicts an average of 3.1% for the mortgage rate this year. The Mortgage Bankers Association, on the other hand, foresees a 3.3% average overall in 2021. These are already better numbers than what we saw from 2020, but these figures are still far from rates offered before the coronavirus pandemic hit the economy.
If you were previously able to negotiate a fixed-rate loan into an ARM, now might be a good time to start reviewing your financial statements to negotiate for the fixed-rate your monthly payments will be able to cover.