What is More Important: the Interest Rate or the Home Price?

interest rates vs home price

Most buyers focus on the interest rate when buying a house. The first is the interest rate you pay on a home loan, and the second is the price you pay to buy the house. The two factors are important in determining if it's the right time to buy a house and what type you can afford.

Does one factor matter more when comparing interest rates and home prices? We'll look at the way they work together, along with some things to consider when you're looking for a home.

How do interest rates affect house prices?

The relationship between interest rates and house prices is usually inverse. When the Federal Reserve increases interest rates, homebuyers can't afford to buy luxury houses. Prices will drop.

The reverse is also true: when mortgage rates drop, buyers will have more money available to spend and home prices will begin to increase. The housing market changes constantly, so this guideline is not a rule.

Home prices may not always fall as fast or as dramatically as expected when interest rates increase. The relationship between home prices and interest rates is therefore less clear.

Historical Chart of Interest Rates and Home Prices

Interest rates fell to historic lows during the COVID-19 pandemic, but they didn't remain that low. In the past few years, mortgage rates have gradually risen, but if you look at interest rates from a historic perspective you will see that they are still very low. It's important to note that interest rates are not the only factor to consider when determining whether a house is a wise investment.

This chart gives an overview of mortgage interest rates and the average sales price for homes in each March since 1972. This information is based upon data provided by Freddie Mac and the Department of Housing and Urban Development.

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What impact do interest rates and house prices have on home buyers?

Interest rates and housing prices have an impact on homebuyers, especially first-time buyers. First-time homebuyers may hesitate or be unable to buy if interest rates or house prices are high.

It's important to research the market and make sure it's a good time to buy. Home prices and interest rate affect two important financial elements of the mortgage process, namely the amount that you pay for your downpayment and the monthly mortgage payment.

Pay Down Payment

The gold standard in the real estate industry (to avoid mortgage insurance for a conventional loan), is to pay 20% of the purchase price when buying a house. If you are buying a $300,000.00 house, your down payment will be $60,000. Your required down payment will increase as house prices rise.

Many people simply cannot afford to pay 20% as a down payment. Some lenders accept down payments as low as 3%, or even as low as zero percent depending on the type of loan. However, a lower deposit can result in a higher rate of interest.

Monthly Payment

Your monthly mortgage payment will be affected by the home price, down payment and rate of interest. Your monthly payment will increase if you purchase a house that is more expensive. A higher interest rate can also increase your monthly payment.

What is more important, home prices or interest rates?

Which is more important, the price of your home or your interest rate. It depends. But the best way to understand how this relationship works is to look at some scenarios.

Scenario 1: Lower Interest Rate

Consider a situation where a buyer chooses a lower rate of interest and a higher price for their home. The lower interest rate allows the buyer to afford a larger house. They assume that the value of the home will increase.

The couple purchases a home for $400,000 and pays 10% as a down payment. Their loan is for 30 years and the interest rate is 3.25 percent. Their monthly payment, excluding homeowners insurance and tax, will be $1566.74.

Scenario 2: Lower House Price

In a second scenario, a buyer may prioritize a lower price for a home and purchase a $300,000. They can build equity more quickly by buying a home at a lower price, which allows them to refinance easier.

When you do the math, their monthly payment is significantly lower. If all other factors remain the same, then their monthly mortgage payment is $1,175.06. This is a difference of $391.68 per month.

You should run your own calculations based on the current market conditions.

home price vs interest rate

Question and Answer: Interest Rates vs. house prices

It is clear that interest rates are related to home prices. However, understanding this relationship at first can be difficult. Answers to some frequently asked questions will help you better understand the impact of interest rates on home prices.

Does higher home prices mean lower interest rates?

Not always. Each real-estate market differs, so prices in your area may be higher even if rates are high. If you look at the historical trends, it is true that higher home prices tend to correlate with low interest rates. This is because more people buy homes when rates are low.

What can I do to improve my chances of a lower rate of interest?

Check your score regularly. If your credit score is low, you should focus on paying down existing debts. Make sure to pay them on time each month. You might also want to save more to increase your down payment. Higher down payments show a lender that you are serious about purchasing the home. Many lenders offer better rates to borrowers who make a higher down payment.

When interest rates are high, should I buy a home?

Your personal situation will determine whether you should buy or rent. You may want to buy if you are comfortable with your mortgage payment. Before making a purchase, consider your financial situation and make sure that you can afford the home.

Bottom Line

It is ideal to purchase a house when both the interest rate and the home price are low. However, this is not always possible. When you consider the relationship between interest rates and home prices, it's important to remember that giving one priority over the other may not be a wise decision.

Your buying decision will ultimately be based on your financial situation, as well as your goals and priorities. Do you want to buy a larger home or do you want your monthly payments to be as low as possible. Make sure to run the numbers before you purchase a house with a higher interest rate or listing price.

After reviewing your finances, it will be easier to make the best decision for you.

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