Tag Archives: Federal Reserve

Where 15 Can Beat 30 – What Kind of Loan Should I Get?

With rates changing (if you don’t know about this it’s ok, but they are…) have you wondered how that might affect the loan that you should consider taking out for your home? Well, here is a very wonky article that can help you dive into this under discussed, and very important topic. It might be a good idea to play around with a mortgage calculator to see what the difference might be for you.

-Grady

 

The Federal Reserve Board is on track to raise interest rates as soon as today. It’s a move that will mean higher mortgage rates, higher monthly payments, and reduced purchasing power for new borrowers. Homebuyers, who haven’t seen an interest rate increase in nearly 10 years, may be tempted by lower-rate 15-year mortgages.

Where 15 Can Beat 30

A 15-year mortgage is a smart choice for households in housing markets where price increases have been modest, but a tougher call for households in hotter markets.

The Federal Reserve Board is on track to raise interest rates as soon as today. It’s a move that will mean higher mortgage rates, higher monthly payments, and reduced purchasing power for new borrowers. Homebuyers, who haven’t seen an interest rate increase in nearly 10 years, may be tempted by lower-rate 15-year mortgages. But do the advantages of a 15-year mortgage outweigh the costs? The answer depends partly on where you live.

We’ve crunched the numbers for the largest U.S. metros, and found that:

  • With the median US household income, a 30-year mortgage allows homebuyers to purchase 46% more house, but a 15-year mortgage provides triple the paid equity in just 5 years.
  • Homebuyers in areas where prices have a history of rising will benefit greatly from faster equity-building with a 15-year mortgage.
  • Buyers in areas with historically slow growing to flat housing prices will benefit less from shorter-term mortgages and potentially more from the borrowing power of a 30-year loan.

The Tradeoffs Between 30- and 15-year Mortgages

In general, 30-year mortgages have three advantages:

  • Monthly payments are lower
  • Borrowing power is higher
  • Tax benefits are greater

The primary advantage of a 30-year mortgage is lower monthly payments. On the median valued U.S. home, a 30-year mortgage comes with a payment that is $320, or 27%, lower than a 15-year mortgage. Lower payments also mean that a borrower’s debt-to-income (DTI) ratio is lower than a 15–year loan. This allows middle class buyers (a household earning the U.S. median income) to borrow $77,000, or 46%, more with a 30-year mortgage than a 15-year. Last, borrowers with a 30-year mortgage can write off nearly $68,000 more than a 15-year mortgage via the mortgage-interest deduction on their federal income taxes.

Trulia 15v30

A 15-year mortgage has three advantages over a 30-year mortgage:

  • Equity builds faster
  • Interest rates are lower
  • Loan term is shorter

The primary advantage of a 15-year mortgage is that a larger share of each monthly payment goes towards paying off the loan principal. After five years (the number of years the average young household moves), equity gained from paying off the loan balance is more than $39,000, or three-times greater with a 15-year mortgage on the median value home. In addition, the 15-year rate is 3.36%, compared with 4.12% for a 30-year note. And over the loan term, borrowers with 15-year mortgages pay just under $40,000 in interest with a 15-year compared to over $107,000 with a 30-year on the median value home.

In Bargain Markets, 15-year Mortgages Are A Homebuyer’s Best Bet For Equity

Home equity can come from three sources: down payment, principal reduction, and home value appreciation. This means that in markets with slow appreciation, a larger share of equity will come from homeowners paying down the loan balance when compared to home value appreciation. In such markets, 15-year loans offer a relatively faster route to building equity.

Trulia_15yrmortgage_LineGraph

We’ve identified the 10 markets in the country where, after five years of ownership, homeowners will have the most equity from principal reduction relative to home price appreciation. At the top of the list are markets exclusively in the Bargain Belt (Midwest and Southeast). In each of these markets, 15-year mortgages can provide over twice the equity relative to home price appreciation. For example, homeowners in Dayton, Ohio, can earn $22,018 in equity from mortgage payments with a 15-year mortgage, which is 2.37-times greater than the $9,295 gained from price appreciation. With a 30-year mortgage, payments would net households just $7,393. Clearly, household in these markets would gain much more equity by paying down their mortgage principle with a 15-year loan than from home value appreciation.

Markets where Principal Repayment is Key to Equity Growth
# U.S. Metro 5-year Equity from Principal Repayment, 15-year 5-year Equity from Principal Repayment, 30-Year 5-year Equity from Home Value Appreciation 5-year Principal Repayment Relative to Appreciation, 15-year* 5-year Principal Repayment Relative to Appreciation, 30-year
1 Dayton, OH $22,018 $7,393 $9,295 2.37 0.80
2 Cleveland, OH $26,906 $9,034 $11,960 2.25 0.76
3 Toledo, OH $21,193 $7,116 $9,667 2.19 0.74
4 Akron, OH $26,993 $9,063 $12,420 2.17 0.73
5 Rochester, NY $27,704 $9,302 $12,862 2.15 0.72
6 Detroit, MI $13,171 $4,422 $6,180 2.13 0.72
7 Greensboro-High Point, NC $24,924 $8,369 $11,778 2.12 0.71
8 Lake County-Kenosha County, IL-WI $43,508 $14,608 $20,620 2.11 0.71
9 Memphis, TN $23,289 $7,819 $11,093 2.10 0.70
10 Winston-Salem, NC $26,544 $8,912 $12,668 2.10 0.70

In Pricey Markets, 15-year Mortgages Are A Tougher Call

In markets with strong home price appreciation, deciding between a 15-year and 30-year mortgage is a tougher call. Like bargain markets, 15-year loans provide more equity from principal repayment than from appreciation. The difference, however, is much smaller. In pricey San Francisco and San Jose, Calif., 15-year mortgages provide just 1.35 times more equity from principal payoff than appreciation. Still, the difference in equity from principal repayment is great between a 30-year and a 15-year mortgage. For example, households in Orange County would stand to gain nearly $100,000 more in equity after 5 years by choosing a 15-year mortgage.

Markets where Appreciation Drives Equity Growth
# U.S. Metro 5-year Equity from Principal Repayment, 15-year 5-year Equity from Principal Repayment, 30-Year 5-year Equity from Home Value Appreciation 5-year Principal Repayment Relative to Appreciation, 15-year 5-year Principal Repayment Relative to Appreciation, 30-year
1 San Francisco, CA $247,382 $83,061 $184,397 1.34 0.45
2 San Jose, CA $203,060 $68,179 $150,088 1.35 0.45
3 Orange County, CA $139,362 $46,792 $96,300 1.45 0.49
4 Los Angeles, CA $112,946 $37,922 $76,446 1.48 0.50
5 Oakland, CA $136,768 $45,921 $92,323 1.48 0.50
6 San Diego, CA $106,895 $35,891 $72,083 1.48 0.50
7 Ventura County, CA $111,904 $37,573 $73,109 1.53 0.51
8 Boston, MA $90,176 $30,277 $58,567 1.54 0.52
9 Austin, TX $50,860 $17,077 $32,778 1.55 0.52
10 Charleston, SC $44,599 $14,975 $28,684 1.55 0.52

Even though 15-year mortgages provide more equity through loan repayment than appreciation, they also come at the expense of borrowing power. In high-priced markets, the difference in nominal terms can be substantial. For example, middle class families in San Francisco (households making the median income of $104,000 per year) could purchase a $628,000 home with a 30-year mortgage but only a $430,000 home with a 15-year. This makes house hunting hard when the median priced home costs more than $1 million. As a results, this could be the difference between buying their dream-home or a starter for some households.

To show why households in expensive housing markets have a much tougher decision, we’ve put together a scatterplot of median home values for each of the 100 largest U.S. metros and matched it with the relative amount of equity a household can gain from payments on a 15-year mortgage. As you can see, households in cheaper markets (bottom axis) stand to gain relatively more equity (left axis) from paying down their mortgage with a 15-year note than through home value appreciation when compared to pricier markets. For example, households in affordable Cleveland, which has a median home value of $123,000, can reap 2.25 times the equity from loan repayment than appreciation. In San Francisco, the land of million dollar homes, the added value is only 1.34 times the equity.

Trulia scatter 30v15

The takeaway: 15-year mortgages are a great option for those wanting to build equity, regardless of how expensive or how fast growing a market is. However, in places with historically low appreciation, 15-year mortgages are a much better deal for building equity because it’s about the only way to do so though paying of the loan balance. On the other hand, in areas with historically high price appreciation that also happen to be expensive, households need to consider the tradeoffs between the borrowing power of 30-year mortgages, expected equity from home price appreciation, and whether or not they will use equity from their existing home as a down payment on their next one.

Methodology

To compare 30- and 15-year mortgages, we estimate the amount of equity a household would gain from both appreciation and from paying off the principal after 5-years of homeownership of the median valued home. We estimate this separately for each of the 100 largest U.S. metros, and use an annualized 20-year Federal Housing Finance Administration (FHFA) house price growth rate to project home values 5 years into the future. Last, we compare the nominal and relative amount of equity a household would gain by choosing either a 30- or 15-year mortgage and comparing that to the expected gain in equity from home value appreciation.

Source: Where 15 Can Beat 30 – Trulia’s Blog

 

If you have questions of concerns please feel free to reach out to me:

Federal Reserve Decision: Fed signals that higher interest rates are coming – The Washington Post

History of Interest Rates
Interest Rates From 1960 to 2015

 

*The above chart shows interest rates from 1960 to 2015, and if you click on the picture it will take you to a site where you can put in your own years and compare rates.

Buying a home is normally not a process that requires much political acumen. Over the last several years The Federal Reserve (our nation’s central bank), which is also referred to as “The Fed” has increasingly become a hotbed for political gamesmanship, as well as actual concern for people of differing perspectives. The Federal Reserve essentially sets the interest rates for lending in our nation, and thus when someone is getting a home loan the decisions of The Fed to adjust rates has a real life impact on average citizens, especially when purchasing a home (as this is likely the largest loan that an American citizen will ever take out).

So, with the recent update announcing that The Fed is likely to allow interest rates to rise after several years of keeping them unusually low (and saving borrowers money), at a cost to the American people. Having low interest rates has been a source of economic stimulus that is intended to be paid back later by the American people. With all of this said, you can observe the chart above where it measures the interest rates from 1960 through 2015. We are sitting at a very low level of interest at this time, and though it may go up it may not actually be as scary or ominous as some might make you believe. However, if you are intending to buy a home the time is ripe for getting a loan. The rates will almost assuredly not get any better, and will likely move in the other direction to some degree or another. I have included a mortgage calculator on this site in multiple places, but if you would like to play with the numbers and see how an interest rate hike will affect you feel free to play below:

How Will Interest Rates Affect Me?

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My father Kent Carter has been a mortgage lender for over 30 years, and he has served as President of the Oklahoma Mortgage Bankers Association (OMBA). I of course think he is wonderful, but whether you contact him or someone else this should be the first step that you take if you are interested in buying a home and don’t have the cash to pay for it without a loan. I actually put that on my business cards – if I help someone find their dream home and we need to move quickly to make an offer it is pretty upsetting when they realize that not having a pre-approval letter from a lender means that they must wait and might miss out on a home that they want. So if you are looking to buy a home stop what you’re doing and ask a few lenders what their rates and fees are, don’t wait! Ok, I’ll stop so that you can read the article if you’re interested in learning about The Fed and the current politics of interest rates, but if you are looking to buy a home soon Please don’t wait to line up your lender, and feel free to let me help you buy your next home 🙂

Roadmap to Buying A Home

If you’d like to read about a layman’s experience with buying a home in Oklahoma click the picture of the cute couple above, or Click Here.

-Grady

My Business Card

 

Federal Reserve Decision: Fed signals that higher interest rates are coming

 March 18 at 2:04

The Federal Reserve cleared the way for raising interest rates for the first time in six years, dropping the words “can be patient” from its guidance to investors.

But the central bank’s open market committee said a rate hike was “unlikely” at the April meeting. And while it has indicated that a rate hike could come as early as June, it might also wait until later in the year before boosting rates if inflation remains tame and below or near the 2 percent Fed target.

Higher rates have wide ramifications for global markets and for consumers, who could see higher costs associated with taking out mortgages and car loans.

Ever since the financial panic of late 2008 and 2009, the Fed has kept its target range for federal funds between zero and a quarter of a percentage point, the longest period ever of such low rates. Fed chairman Janet Yellen and other Fed officials have been saying they want to start moving rates back to “normal” levels.

The committee said it would raise the target range for the federal funds rate “when it has seen further improvement in the labor market and is reasonably confident that inflation will move back to its 2 percent objective over the medium term.” It added that the “change in forward guidance does not indicate that the Committee has decided on the timing of the initial increase.”

The Fed has more modest expectations for the economy than it did just three months ago, an outlook that suggests a more cautious approach to boosting interest rates. It said growth “has moderated” while labor market conditions had “improved further.”

The Fed lowered its forecast for economic growth to a high of 2.7 percent in 2015 and 2016, down from an upper end of 3 percent it forecast just three months earlier. Unemployment was a spot for optimism. The Fed said that unemployment this year would edge down to a range between 5.0 and 5.2 percent, slightly lower than its December projections.

Over the past six months, low oil prices have helped keep inflation and inflation expectations modest, spilling over into inflation for other goods. The central bank lowered its own forecast for 2015 core inflation – excluding oil – to a high of 1.4 percent from a forecast high of 1.8 percent last December.

But it has said that the steep drop in oil prices was temporary and some professional economists have blamed bad weather in the northeast for causing gross domestic product to slip about one percentage point.

The open market committee also sought to reassure investors about interest rates beyond the next few meetings. It said that “even after employment and inflation are near mandate-consistent levels, economic conditions may, for some time, warrant keeping the target federal funds rate below levels the Committee views as normal in the longer run.”

While it made scant mention of “international developments,” most economists said that the strong dollar and aggressive steps by the European Central Bank and Bank of Japan were already having an effect similar to a rate increase by curtailing U.S. exports.

John Canally, Chief Economic Strategist for LPL Financial, said that the Fed had provided “a spoonful of sugar” to help the change in phrasing go down easily in stock and bond markets. He pointed to lower interest rate expectations among the FOMC members.

In a survey of its own rate expectations, the 17 members of the committee indicated that their own forecasts for the federal funds rate were considerably lower than they were as recently as December.

Today, only four of the 17 said federal funds rates would be 1.125 percent or higher by the end of 2015 and seven of the 17 said the rate would be 0.625 percent or lower. In December, nine of the 17 said the Fed would raise the federal funds rate to 1.125 percent or higher.

The last time the Fed raised rates was 2004, said Canally. “That’s 11 years ago,” he said. “A lot of the guys on bond trading desk now were in high school. It’s a long time ago. There’s no institutional memory.”

That’s why he expects some volatility in stock and bond markets, even though, he notes, stocks have gone up in eight of the last nine years following rate hikes.

Much rests on the Fed’s decisions on the short-term federal funds rate, especially if longer term interest rates follow suit. Canally said that while higher rates would hurt borrowers, especially those seeking short term mortgages or car buying credit, higher rates could also help savers who have an estimated $15 trillion to $20 trillion of interest bearing assets.

Even in the housing sector, the impact of higher federal funds rates could be moderated by the decline in the business of adjustable rate mortgages, which Fannie Mae economist Doug Duncan estimates make up just 4.5 percent of the mortgage market.

Steven Mufson covers the White House. Since joining The Post, he has covered economics, China, foreign policy and energy.

Federal Reserve decision: Fed signals that higher interest rates are coming – The Washington Post.