Mortgage rates, explained

If you're buying a home, you may know that mortgage rates have something to do with the interest you pay over the life of your loan. But do you really know how your home's mortgage rate can affect you? Learn about mortgage rates and how they work, as well as steps you can take to save money now and in the future.

What is your mortgage rate?

A mortgage rate, or mortgage interest rate or interest rate, is part of what it costs to borrow money from a lender. Instead of paying your mortgage lender a lump sum, the interest is paid as part of your monthly payment for your home loan.

What's the difference between a mortgage rate and APR?

Your mortgage rate is one component of the figure that makes up your annual percentage rate (APR). For this reason, your APR is typically higher than your mortgage rate.

Your mortgage interest rate only covers the cost of borrowing a specific amount of money from a lender and is the actual rate used to calculate your monthly principal and interest payment. The APR covers a broader spectrum of the costs involved in a mortgage, including:

• Broker fees
• Discount points
• A portion of your closing costs expressed as a percentage

When comparing APRs for different loans, it's important to ask your lender what's included in your APR and how the terms of your loan affect the amount.

Types of mortgage rates

The term, length of time it takes to pay off your loan and type of mortgage you have affects your monthly interest rate. There are two main types of mortgage loans.

Fixed-rate mortgage

A fixed-rate mortgage provides you with a consistent interest rate for the life of your loan. This means your monthly principal and interest (P&I) payment will be consistent as well. A fixed-rate mortgage generally has a higher interest rate than the initial interest rate on an ARM.

Adjustable-rate mortgage (ARM)

An adjustable-rate mortgage has a fixed introductory rate that stays the same for a set period of time, such as 5 or 7 years, then may change periodically. This means your monthly P&I payment could increase considerably after your introductory period is over. Rate caps exist to limit the amount your interest rate can rise.

Factors that affect mortgage rates

Your mortgage rate is a unique number affected by your personal financial situation as well as larger economic factors. Your personal financial situation will help determine if you're eligible for a lower rate. These factors can affect the amount of your mortgage rate.

External economic factors

You can't control these factors, but they help dictate the national average for current mortgage rates.

• Strength of the economy. Economic growth leads to more homebuyers in the market. As demand increases, so do mortgage rates due to the fact that lenders only have so much money to lend out.
• Employment rates. As unemployment rates increase, mortgage rates usually drop. When the job market is strong, mortgage rates increase to match demand.
• Housing market conditions. When fewer homes are being built, mortgage rates drop as demand for mortgages decreases. An increase of people renting can similarly drive down demand for mortgages and lower rates.
• Stock and bond markets. Mortgage rates typically decrease when the stock market falters.
• Federal Reserve. The Federal Reserve is the nation's central bank that works to encourage job growth and keep inflation under control. While the Federal Reserve doesn't actually set mortgage rates, the numbers generally rise and fall with the change of federal fund rates.
• Inflation rates. Inflation means lenders are less likely to get a complete return on their investment. Mortgage rates typically rise with inflation.

Personal financial factors

Your personal financial situation is an important factor that determines what mortgage rates you’re eligible for. These factors can help you get an affordable mortgage rate.

• Debt-to-income ratio. Your debt-to-income ratio tells lenders how much of your income is already accounted for. If you have a high debt ratio, your mortgage rate will likely be higher to offset the risk the lender takes by offering you a loan.
• Credit history. Your financial decisions in the past serve as a predictor for lenders of what you might do in the future. A good credit score makes you an attractive borrower to lenders, and you’ll likely be eligible for a lower interest rate
• Loan size, type and term. The length of time it takes to pay off your loan, and whether you have a fixed or adjustable rate can make a big difference in your mortgage rate amount.
• Down payment amount. A bigger down payment means you owe less on your home. With a larger down payment, you borrow less from your lender and already have more equity in your home.

How to lower, change or lock-in your mortgage rate

While you can't control external factors that determine your rate, there are ways you can find an affordable mortgage rate.

How to get a lower mortgage rate

Your mortgage rate is an important part of your home loan. Getting a lower mortgage rate starts when you make the decision to become a homeowner. Building a good credit history and making responsible financial decisions will show lenders you’re a responsible borrower. When you begin searching for a mortgage loan, shop around to see which lenders are offering the best terms. As you work with a lender to determine the details of your loan, consider these options to help get a lower rate.

• Save up for a large down payment. A bigger down payment means you're financing less of the total cost of your home and can help you avoid paying private mortgage insurance.
• Purchase mortgage discount points. This is a way you can prepay interest on your mortgage loan. By paying a percentage of the cost of your loan with mortgage points, your interest drops slightly.
• Talk to a Home Lending Advisor. Talk about your financial situation and the ways your loan type and term can help you get a lower mortgage rate.

How to lock in your mortgage rate

Fluctuating market prices mean mortgage rates can change frequently. When you've been quoted a mortgage rate you like, it's important to lock it in. This means you'll still get the rate you were quoted — even if market rates rise before closing.

Rate locks last anywhere from 30 to 90 days and usually require you to pay a fee. While rate locks prevent your mortgage rate from rising, they may also prevent you from taking advantage of rate drops. Talk to your Home Lending Advisor about lock options.

How to change your existing mortgage rate

If you're having difficulty meeting your monthly payments or simply want to take advantage of current lower mortgage rates, you may be able to change your mortgage rate. It's important to note that these options may also change other terms of your mortgage.

• Refinancing: Refinancing your loan is the most common way to change your mortgage rate. Refinancing means you’re replacing your loan with a new one. It can help you lower your monthly payments and possibly reduce your total payment amount.
• Loan modification: Mortgage modification programs provide opportunities for homeowners to change the terms of a mortgage.

Your mortgage rate is one of many factors that affect your monthly mortgage payment and the total amount you pay for your home. Taking the time to learn about mortgage rates and how they fluctuate could help you get a lower rate. Talk with a Home Lending Advisor about getting the right rate for you.