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How Purchasing Power Lowers as Interest Rates Rise

There’s nothing quite like changing interest rates to quicken the pulse of potential homebuyers. When interest rates dip down, the rates of mortgage applications tend to spike because people want to secure the best rate possible. But when interest rates are increased, people get cautious. Why? It’s all about purchasing power.

Your purchasing power is higher when interest rates are low. Conversely, you lose a bit of purchasing power the more interest rates rise. Because of this, the average interest rate nationwide can have a big impact on which house you can afford.

Over the last several years, after hitting historic lows following the recession, interest rates have been gradually climbing back up. If you’re in the process of buying your first home or getting ready to refinance or shop for your next home, interest rates are an important factor.

Let’s take a closer look at how purchasing power and interest rates are intertwined:

1. Supply and Demand

When the economy is strong and more people are shopping for homes, lenders are more likely to increase their rates. It’s simple supply and demand, but it can have a big impact on your purchasing power.

When few people are house shopping and interest rates are lower, it’s more likely to be a buyer’s market. There’s less competition for every home, so your dollar goes further and you have more negotiating power. In this environment, you would likely be able to afford a somewhat larger home or one with a better location or costlier features.

On the other hand, if interest rates are higher that typically means more people are house shopping. Your local area may become more of a seller’s market, where prices rise, bidding wars are common, and homes get snatched up quickly. Add to that the stress of higher interest rates, and it can become a tense process, especially for first-time homebuyers.

2. Your Total Purchase Price

Of course, the interest rate you secure directly impacts how much you spend, overall, on your home.

When you close on a home loan, your lender will provide you with a document that shows the total amount you’ll pay over the life of your loan, including interest. This number is sometimes a shock to first-time homebuyers, but we always remind them that it only applies if they stay in the home for the full loan term—typically 30 years. Your interest rate has a significant effect on this total. The lower your rate, the lower your total purchase price. But as mortgage rates rise, your purchase price will trend upward as well.

That’s why, if possible, you should buy a home when interest rates are lower. If there’s talk of rates going up, it’s often a good idea to act quickly, because you’ll save money in the long run.

3. The Role of Your Credit Score

While you can’t control the overall mortgage interest rate, you can work to ensure that you’ll get the best rate possible by keeping your credit score high. In the months before buying a home, you can improve your score by whittling down credit card debt and student loans and avoiding any additional lines of credit, such as a new credit card or car loan.

Whether you’re looking to buy a home in the next few months or sometime this year, it’s always helpful to keep overall interest rates in mind. And remember, you don’t want to wait too long, because rates are likely to edge up again later this year. Regardless of when you buy, however, a licensed loan officer can help you secure the best interest rate available and answer any questions you have.