Mortgage price has a significant impact on the overall long-term cost of purchasing a home through financing. There are various factors which decide the price of your mortgage, that’s why your lender wants you to know exactly what goes into the price of your home loan so you know what you’ll have to pay both upfront and on an ongoing basis. Some of the most important factors are:
Market interest rates
Mortgage interest rates are linked to the prevalent interest rates across financial markets. According to the economic condition and monetary policy, mortgage rates change. A strong economy and rising inflation cause mortgage rates to increase and vice versa.
The term is the number of years you have to pay back the loan. Most terms last 15, 20, or 30 years. The longer the term, the higher the interest rate as it is riskier. However, a longer loan term will have lower monthly payments because the payments are spread out over a longer time.
Fixed-rate mortgage is the most common type of mortgage, in which the interest rate on the loan is constant throughout and the required monthly payment will also remain the same. Opt for this if you have a 10 – 15 year mortgage.
Adjustable-rate mortgage has a fixed interest rate for the first 5 – 10 years, but after this time, the interest rate will depend on the market rate and change accordingly. This may be suitable for some buyers as it will be cheaper in the long-run.
Loan-to-Value (LTV) Ratio
LTV ratio is the amount borrowed for a mortgage loan divided by your future home’s appraised value. A lower LTV i.e. borrowing less, gets you a better rate, as you are putting more money down, so the chances of loan approval increase, loan fees reduces and hence you get a lower mortgage rate.
The FICO Score is a standardized measurement of creditworthiness. The higher the FICO score, the higher the credit, and the higher the chance of getting a loan without default, so lower the interest rate on the loan.
Debt-to-income (DTI) Ratio
DTI Ratio is the total monthly debt requirement divided by your total monthly income. A lower DTI is associated with less risk, hence a lower mortgage interest rate.
Your credit score affects both your mortgage and payment methods. The higher the credit score, the more likely you are to get a mortgage loan with a low-interest rate. For a conforming loan, a 740+ credit score is needed to get the best rates and costs available while FHA. You can maintain your high credit score by paying your bills on time and minimizing your credit utilization rate.
The size of the down payment affects the interest you have to pay. A higher down payment means a lower LTV ratio, so lower risk for the bank or lender, and hence, less interest. Putting down more than 20% will help you make up for a low credit score.
The amount you borrow will affect the mortgage rate that you pay. A very high or low loan amount will lead to higher interest rates. To avoid high interest rates, get a conforming first mortgage with a purchase-money second mortgage rather than taking out a more-expensive large home loan.
Interest rate changes with property type, as each property has a different level of risk associated with it. The mortgage is generally higher for Condominiums, second/vacation homes, or manufactured homes. So a larger down payment will help secure a lower loan.
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