Monthly payments – not interest rates – the key factor home buyers should consider

There has been a lot of talk recently about a looming spike in national interest rates, which of course, many people are linking to an increase in mortgage rates. The chatter intensified in early November when Fed Chair Janet Yellen hinted at a likely increase in key short-term interest rates.

By no means should an interest rate hike be dispelled, but this certainly isn’t a development that should strike fear into the minds of homebuyers. First and foremost, interest rates will most likely increase gradually over time – there won’t be some kind of drastic spike that goes into effect one particular day. While an interest rate increase would undoubtedly affect the rates associated with mortgages, it’s not the most pressing factor that consumers should be considering. Instead, homebuyers should focus their attention on the real cost associated with buying a house – the monthly payment.

For instance, consider the decision-making steps an educated consumer typically takes when buying a car. Before even stepping foot onto the lot of an auto dealership, you develop a plan based on your personal budget. It’s vital that you know the maximum monthly car payment that you can afford, taking into consideration your income and expenses. If you earn a net monthly income of $3,000, and have expenses that equate to $2,500 per month, you can’t afford that brand new luxury car that requires a $600 monthly payment. It’s a matter of buying within your specific budget – and that ultimately is decided by actual payments and terms of the loan, not interest rates. Financial considerations when buying a house should be no different.

While interest rates have an impact on monthly payments, it would be irresponsible to consider them irrelevant. However, the incremental payment changes that result from modest interest rate increases really shouldn’t scare people away from pursuing their dream of homeownership.

As an example, an individual paying a 10% down payment on a $200,000 house – with a 30-year fixed loan that includes a 3.875% interest rate and borrower-paid mortgage insurance (BPMI) – could expect a $891 monthly payment. If market conditions forced that same buyer’s interest rate to jump to 4.25%, the monthly payment would be $930 – a rather small difference of $39 per month.

On another hand, considering the same loan conditions but with lender paid mortgage insurance (LPMI), monthly payments would increase from $846 at a 3.875% interest rate to $885 at a 4.25% interest rate. That’s the same small difference of $39 per month.

Now, take a step back and look at this same scenario from a different perspective. What if, from the onset, you knew that your financial situation allowed you to afford a maximum monthly mortgage payment $700? You would be able to use that number as a starting point to figure out your limit, in terms of sales price and interest rate.

Many first-time home buyers have been conditioned to focus on looking at the total price when purchasing a home, not the monthly payment associated. They only consider the obvious numbers that are on display, instead of crunching numbers and determining their true opportunities and limitations. While interest rates shouldn’t be ignored, the “doom and gloom” tone that consumers might hear from the media isn’t to be taken at face value. Despite any increases in interest rates, it’s the responsibility of consumers to do their homework and determine the true monthly payment they can afford to spend, along with choosing a mortgage professional to review the dozens of loan program options that are available. Change is inevitable, rates may increase, but in the end, the dream of home ownership can be achieved – borrowers just have to focus on the right numbers.