When buying a new home, it is important to understand everything possible about mortgages in order to get the best deal, and the number one way to do so is to learn about interest rates. Interest rates and how they apply to mortgages can drastically affect the final buying price of a home, and following a few expert tips can end up saving you thousands of dollars over the term of a loan.
Understanding Interest Rates
Interest is the money a lender charges you for borrowing enough to buy your home. It works very similarly to the interest you may be earning in your savings account or other bank investments. The interest compiles as a percentage rate of the principal. With bank accounts, this earns you money over time by continually adding to the amount in the bank. However, with mortgages, interest works in reverse.
As long as the interest rate remains unchanged, each time you pay a portion of your principal balance on a home loan, the interest added to the loan decreases. This means that a mortgage with a term of 10 years will almost always cost you less than one with a term of 20 or 30 years.
Locking in a Low Interest Rate
The two most popular types of home loans are fixed-rate mortgages and adjustable-rate mortgages. In a fixed-rate mortgage, the interest rate remains the same throughout the term of the loan. This is the best type of mortgage to enter into when rates are low. In an adjustable-rate mortgage, the interest rate may periodically increase or decrease to reflect current market conditions. If the economy turns south and interest rates go up, then you may end up spending a lot more for your home than you believed you would spend when the mortgage was signed.
Interest Rates and Points
It is possible to lower your interest payments in several ways. One way is to provide the lender with the highest down payment you can afford. This will lower the principal amount you owe, thus reducing your total interest. In addition, many lenders allow their borrowers to buy interest-rate points. By paying a fixed fee with your down payment, the lender will reduce the interest rate on the loan by one percent for each point purchased. This can have a dramatic effect on the total interest paid over the course of 30, 20 or even 10 years.