How are mortgage rates determined?
Mortgage rates are constantly changing and this makes it difficult when one is buying or refinancing a home. So how are mortgage rates determined? Learn this form the best texas cash out refinance at the moment.
There are really two pieces to mortgage rates. First, everyday there is a general market price for loans. This is how Wall Street or “the open market” prices mortgage backed-bonds. Secondly, there is how your local lender/mortgage broker takes the Wall Street open market rates and offers them to the public.
The purpose of this article is to discuss how your local lender or bank determines the rate for your specific home loan.
For talking purposes, let’s say today’s market price for a loan is 6.5%. And in order to get this 6.5% loan one must meet these 8 qualifications:
- The borrower must put 20% down
- Must have a 700 score
- Property must be owner-occupied.
- If the property is a condominium, the condo must have at least 50% owner-occupied tenets, not renters.
- The borrower must have 3 months savings in an account. (or have 3 month’s worth of payments in the bank)
- The borrower must document all their income with tax returns and/or w2.
- The borrower’s debt ratio (DTI or DR) but not exceed 45%.
- Finally, the borrower must have an escrow account so the bank, not the individual, pays the taxes and insurance.
If a borrower can meet all these guidelines then their rate would be 6.5% for a 30 year fixed rate. Naturally, if the borrower wanted a 15 year mortgage the rate would be lower since 15 year rates are lower than 30. But they would still have to meet these 8 guidelines.
So one can see there’s a lot more to getting pre-approved for a loan than just having good credit!
However, since not every borrower can put 20% down, the banks will charge a higher rate for, say a 10% down loan. A 10% down loan is higher risk than a 20% down so it has a higher rate. The key thing to remember when considering a home loan is this: The risk of the loan determines the final rate. Every time one adds a higher element of risk to their loan like putting down les than 20% or not having a 700 credit score, the banks charge higher rates just like insurance companies charge higher premiums if they know a proposed client has less than stellar physical health.
And not every rate-hit is a negative thing. Sometimes banks charge more for higher risk loans even when the borrower has stellar credit and debt ratios. For example, if the client wants to reduce his closing costs and waive escrows (pay his own taxes and insurance) the bank will typically charge a .25% higher rate. They do this because when one waives escrow they are opening the bank up to a potential tax lien should the borrower fail to pay his property taxes. Another example of a “good rate hit” is when someone eliminates PMI. Again, banks charge higher rates because banks prefer lending on homes that are protected with PMI. If the borrower fails to pay his mortgage the PMI Company stands behind the bank’s investment.
So when you think about it: The best loan to get (the loan that has the lowest closing costs and lowest payment) is a no escrow, no PMI home loan. However, these two elements of risk would make raise our 6.5% open market rate to 6.875%. or even 7.00%.
Remember, higher risk, relates to higher rates.
Likewise, if the borrower has 20% down but only has a 640 credit score, their rates are likely to be in the 6.75%-6.875%. Having low scores are defiantly a driving force behind having higher rates.
Now that this all is said, you can imagine how perplexed a loan officer might feel when someone calls us and says, “Hi, my name is Bob, what’s your rate?” While Bob thinks all loans are the same, loan officers and mortgage brokers know that the rate for Bob is determined by the above 8 elements. It’s almost impossible to give someone a reliable rate or good faith estimate (GFE) by a just knowing their name!
So the best way to get the lowest rate is to talk to a local loan officer you trust and give them a complete application. Once they know all the facts, they can now give you a reliable good faith estimate. Most mortgage people now have secure websites for potential borrowers and this step only takes 5 minutes. Then, once the loan officer has all the pertinent information they can give you your exact rate and a truly reliable good faith estimate.