Interest Rates Are At a 20-Year High: What This Means for New Home Buyers

Buying a home is a major financial investment at the best of times. Any purchase of hundreds of thousands of dollars - or sometimes much more, in certain situations - almost always requires either a sizable down payment or a long-term mortgage. In many cases, it means both, as this makes for more affordable monthly loan repayment amounts.

However, trouble has been brewing on the horizon for a long time now, and the days of affordable mortgages seem to be at an end for now. Interest rates on all lending across the US have become increasingly expensive, and that means financing a home loan is now potentially much more costly than it has been in quite literally decades. Here’s what the new normal looks like and what it means for new home buyers looking to enter the real estate market.

The Culprit Behind Rising Interest Rates

Interest rate increases don’t happen out of nowhere. In this case, US government financial policy decisions are to blame for recent rate hikes. Specifically, the Federal Reserve has been raising interest rates in an effort to combat inflation, which has been growing at a rate that the Fed has been uncomfortable with. As a result, mortgage rates have also been rising, reaching a 20-year high of 7.08% as of August 17, 2023. 

This is bad news for new home buyers, as it will make it more expensive to finance a home. The knock-on effect from such high rates - which are more than double what they were before the Fed began ratcheting up the base interest rate in the US - includes the following things that are likely to affect new home buyers:

• Your monthly mortgage payment will be higher. The higher the interest rate, the more you will have to pay each month on your mortgage. For example, if you borrow $300,000 at a 30-year fixed rate of 6%, your monthly payment will be about $1,870. If the interest rate rises to 7%, your monthly payment will increase to about $1,990. This means that you will have to pay an additional $120 per month.
• You may qualify for a smaller loan. Lenders will take your interest rate into account when they determine how much you can afford to borrow. As interest rates rise, you may qualify for a smaller loan. This could mean that you have to compromise on your dream home or make a larger down payment.
• The housing market may cool down. As mortgage rates become more expensive, fewer people will be able to afford to buy a home. This could lead to a slowdown in the housing market. In fact, according to the National Association of Realtors, home sales fell by 11% in June 2023 compared to the same month last year.

It’s Not Just Buyers That Are Affected

Prospective new home buyers are, of course, front and center when it comes to how lending rates have hit historic highs. However, it’s not just buyers that are being impacted by this; anyone looking to sell a property in this current economic landscape is also going to have to cope with the changes that such high mortgage rates will bring. Specifically, sellers will find a harder time finding buyers who can afford their properties, at least at their initial asking price. 

These sellers will eventually face the unenviable decision of whether they let their home sit on the market for extended periods of time, which will ultimately lead to them having to reduce the sale price of the home in order to find a buyer. Otherwise, sellers may decide to postpone their sale altogether, instead waiting for interest rates to decline once more so that they can get a better price for their properties. Either way, it’s sure to complicate matters for buyers as well as sellers going forward.

What’s a Prospective New Home Buyer to Do?

If you are currently thinking about buying a home in this market environment, it is important to factor in the rising interest rates. You may want to consider waiting until interest rates come down, just as many sellers may decide to do, or you may need to adjust your budget to accommodate the higher monthly payments. Either way, however, there are some things that you can do that will increase your chances of success during this time of historically high mortgage rates. They include:

• Get pre-approved for a mortgage. This will give you an idea of how much you can afford to borrow and what your monthly payment will be.
• Shop around for the best interest rate. There are many lenders out there, so it is crucial to compare rates before you choose one.
• Make a larger down payment. This will lower your monthly mortgage payment and make you a more attractive borrower to lenders.
• Be prepared to compromise on your dream home. If you are set on buying a particular home, you may have to increase your budget or make a larger down payment.
• Consider an adjustable-rate mortgage (ARM). ARMs have lower interest rates than fixed-rate mortgages in the beginning, but the interest rate can fluctuate over time. This could be a good option if you think interest rates are going to come down in the future.

Rising interest rates are a challenge for new home buyers, but it is not impossible to buy a home in this environment. By keeping the above information in mind, you can increase your chances of getting approved for a mortgage and finding a home that you can afford. Take steps not to overextend yourself and keep a close eye on the housing market to help you make your final decision.