What do rising interest rates mean for first time homebuyers?


It’s no secret that prospective homebuyers across the country are feeling deflated. After all, housing affordability is quickly falling to its lowest levels since 2008. The sting of soaring home prices and rising interest rates is particularly painful for first-time homebuyers who haven’t reaped the rewards of rising home values and grapple with rent increases. Mortgage rates are rising above 4% and expected to continue to increase, leaving homebuyers (many of whom are on tight budgets) left to determine what this means for their budget and whether they can find a home they can afford.

Rising interest rates for first-time homebuyers

The Fed approved a 0.25 percentage point rate increase for the first time since December 2018 in hopes of curbing inflation. This means that homebuyers (both first-time and existing) will likely see a rise in interest rates for mortgage loans. An interest rate is the amount charged on top of the principal loan amount by a lender to a borrower for the use of assets. Interest rates are determined by a number of factors, one being the benchmark rate the Fed sets, another being the health or state of the economy and when inflation is high, typically interest rates will rise in tandem.

Theoretically speaking, as interest rates increase, housing affordability decreases. For example, if a homebuyer thought they could qualify for a 3% rate on a 30-year fixed mortgage on a home worth 340,000, they would pay a monthly mortgage payment of $1,480. However, if that interest rate rose to 4% on a 30-year fixed rate mortgage, their monthly payment could increase to $1,636, that’s almost a 10% percent increase in the amount they need to pay each month. Even the slightest increase in interest rates can have a significant effect on the affordability of a home. Couple this with supply chain bottlenecks, high demand, low inventory and you may be asking how any first-time homebuyer stands a chance in today’s housing market.

Expanding home search radius

Homebuyers might consider expanding their search outside of urban cities to more suburban areas to find more affordable homes. This, of course, could still prove to be a challenge and is dependent upon whether employers continue to allow their employees to work from home full-time or part-time. And we can’t forget the effect that rising gas prices have on folks that must commute to work. However, homebuyers could also consider moving out-of-state to a more affordable location. Interested to learn more about the most affordable states to live in? Check out this recent Forbes article.

Postpone purchasing a home until home price gains slow

Home values aren’t likely to fall or stop rising anytime soon. According to The Mortgage Reports however, home prices could begin to moderate and level out in 2022 making for a better market for buyers than the record setting growth in 2021. Though, as mortgage rates begin to rise, you may still want to consider purchasing sooner than later to lock in an interest rate.

Consider putting less than 20% down

According to the National Association of Realtors, in 2021, the average down payment for repeat homebuyers was 17% and just 7% for first-time buyers. In order to stand a chance against stiff competition, first-time buyers could shift gears to look at buying a fixer upper at a lower purchase price and keep some savings in their bank account for fixes and repairs, rather than putting down a full 20% down payment.

Look for programs that offer down payment assistance or programs that offer loans with as little as 3% down. Many of these programs are available to first-time and existing homebuyers. A borrower will likely need to pay mortgage insurance but some programs will cancel the mortgage insurance requirement once the borrower’s equity reaches 20%.

Have you thought about Lease to own programs?

A lease-to-own program allows borrowers to rent a home for a certain period of time, and either during or at the end of the rental period they are given the option of purchasing the home. Some programs allow the borrower to apply portions of their rental payments toward the cost of the home, in turn lowering the mortgage amount over time, if they decide to purchase. A lease-to-own program can help borrowers purchase a home if their credit isn’t adequate to qualify for a mortgage, or they do not have enough saved for a down payment or closing costs. If you take this route, it’s important to fully understand and read the contract for a lease-purchase agreement – you could be legally contracted to purchase the home at the end of the lease period whether you can afford to do so, or not.

In short, it’s clear that with rising interest rates, supply chain bottlenecks, high demand and low inventory, buyers may need to take steps that traditionally, they would have considered out of the question in order to purchase a home in today’s market.