How Important is the interest rate on my loan?

How Important is the interest rate on my loan?

The importance of the interest rate on your loan can vary depending on what you prioritize when purchasing a home or refinancing your existing home loan.  Savings and decisions on a home loan can be categorized into 5 main areas: payment, cash, tax, term, investment/deferral.

Payment

The payment on a home loan can include principal, interest, taxes, homeowner’s or flood insurance, and mortgage insurance.  A 0.125% difference in interest rate on a $200,000 loan will only change a mortgage payment by $20.83 per month.  But, buying a home in an area with high property taxes, high costs of insurance, or that lies in a flood zone, can cost you 100s of more dollars per month.  There is so much more to a monthly payment than just the interest rate.

Cash

Cash is a term we use to describe the amount of down payment (or equity for existing homeowners) and assets readily available to you.  The amount of down payment (or equity) can have an impact on your interest rate, your payment, and the amount of mortgage insurance, if any. 

Tax

Owning a home with a mortgage loan may offer tax savings to you depending on your filing status.  A slight increase in rate or payment should always be compared against the potential tax savings available.  This analysis can be done by you but is best done by consulting a tax professional familiar with tax laws and your circumstances.

Term

Term is the length of time you pay your home loan.  Here is a simple example to compare the dramatic differences in term:

  • $200,000 at 5.000% for 30 years = $1,074/mo. The total payments over 360 months = $386,640
  • $200,000 at 5.000% for 20 years = $1,320/mo. The total payments over 240 months = $316,800

In this example, a change in term of 10 years can save you nearly $70,000, and the change allows you to own your home free and clear 10 years sooner.

Let’s look at one more example with a difference in term and buying power:

  • $200,000 at 5.000% for 30 years = $1,074/mo. The total payments over 360 months = $386,640
  • $183,500 at 5.000% for 25 years = $1,073/mo. The total payments over 300 months = $321,900

In this example, you could borrow $16,500 less on a 25-year loan, have virtually the same principal & interest payment as a 30-year loan, save nearly $65,000 over the life of the loan, and own the home 5 years sooner.

Term can also be a very powerful tool when looking at refinancing options shaving years off your remaining mortgage and still potentially saving 10s of thousands of dollars.

Investment/Deferral

Investment is the analysis of how best to structure your loan while considering these factors. 

  • What is my budget for a payment?  Should I buy down my interest rate? 
  • How much should I put down? 
  • How much money should I keep in the bank for emergency reserves? 
  • Will I see any tax benefit from having this loan? 
  • What loan term works best for my financial goals and budget? 

Deferral is used to describe deferring monthly payments when refinancing.  When refinancing, you may have an option to not have a mortgage payment for a month or two depending on your new loan and when it is completed.

Loan officers should be an advocate for you while looking deeper into ways to maximize your savings and advantages when securing a home loan. 

If you want to learn more about home loan options, use the form below to get started, or use one of our loan calculators.

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