If you’re like most people, you want to get the lowest interest rate that you can find for your mortgage loan. But how is your interest rate determined? That can be difficult to figure out for even the savviest of mortgage shoppers.
Here are 5 key factors that affect your interest rate:
1. Credit score:
In general, consumers with higher credit scores receive lower interest rates than consumers with lower credit scores. Lenders use your credit score to predict how reliable you’ll be in paying your loan.
2. Down payment:
In general, a larger down payment means a lower interest rate because lenders see a lower level of risk when you have more stake in the property. So if you can comfortably put 20 % or more down, do it—you’ll usually get a lower interest rate. If you cannot make a down payment of 20 percent or more, lenders will usually require you to purchase mortgage insurance, sometimes known as private mortgage insurance (PMI). Mortgage insurance, which protects the lender in the event a borrower stops paying their loan, adds to the overall cost of your monthly mortgage loan payment.
3. Loan term:
The term, or duration, of your loan is how long you have to repay the loan. In general, shorter-term loans have lower interest rates and lower overall costs, but higher monthly payments. A lot depends on the specifics—exactly how much lower the amount you’ll pay in interest is and how much higher the monthly payments could depend on the length of the loans you’re looking at as well as the interest rate.
4. Interest rate type:
Interest rates come in two basic types: fixed and adjustable. Fixed interest rates don’t change over time. Adjustable rates may have an initial fixed period, after which they go up or down each period based on the market.
Your initial interest rate may be lower with an adjustable-rate loan than with a fixed-rate loan, but that rate might increase significantly later on.
5. Points vs. Interest Rates:
As you shop for a mortgage, you’ll see that lenders also offer different interest rates on loans with different “points.” A discount is used to help a buyer obtain a lower interest rate and our one of the only closing costs that are fully tax-deductible. No loan requires a buyer to pay discount points unless they do not qualify with the current rate. Generally, points and lender credits let you make tradeoffs in how you pay for your mortgage and closing costs. Points, also known as discount points, lower your interest rate in exchange for an upfront fee. By paying points, you pay more upfront, but you receive a lower interest rate and therefore pay less over time. Points can be a good choice for someone who knows they will keep the loan for a long time. Lender credits might lower your closing costs in exchange for a higher interest rate. You pay a higher interest rate and the lender gives you money to offset your closing costs.