MONEY
05/09/2018 12:19 pm ET

This Is The Most Important Number To Know When You Shop For A House

Hint: It's not the sales price or your credit score.
AntonioGuillem via Getty Images

Home buyers are obsessed with numbers ― unfortunately, it’s often the wrong ones. They tend to focus on the price of a house and generally pay little or no attention to the interest rate of their mortgage loan.

With apologies to former President Bill Clinton, “It’s the mortgage interest rate, stupid.”

Some buyers mistakenly think they are taking the most affordable route when they buy a less expensive house. But that isn’t necessarily true.

The New York Times did the math for you on this one: Let’s say you are determined to not spend more than $2,000 a month on your mortgage. In mid-September, according to Freddie Mac, a 30-year, fixed-rate mortgage was 3.78 percent and you could have afforded a $430,000 loan. Today, with interest rates at about 4.45 percent, you could only afford a $397,000 loan. 

When mortgage rates go up, listing prices generally go down. While that’s not a hard and fast rule, and certainly things like the state of the economy and the job market play a huge role, the common wisdom is that, being unable to control the mortgage rate, if a seller wants to keep the house affordable to the largest pool of potential buyers, they lower the price so that buyers have “less to mortgage.”

Too bad that doesn’t always work out that way. Here’s an example from The Balance: A house is listed at $240,000 while interest rates are 4.5 percent. The monthly mortgage payment (assuming a 20 percent down payment) would be  $972.84. But if a buyer waited for the price to fall to $210,000 and interest rates climbed to 6.5 percent while he waited, the same house ― despite the price drop ― would cost $1067.87 a month.

Yes, as a lower-priced house, it will cost an additional $95 a month over the life of the 30-year-loan ― roughly $34,200 more in total.

Rising rates should put some pressure on finding a home sooner than later.

One suggestion to buyers: Ask the seller to hold a mortgage for you, which means you’ll be able to negotiate the interest rate. Yes, seller-financing is a real thing and could save both buyer and seller money. When the seller holds a loan for you, he is essentially serving as the mortgage lender. The buyer pays the seller the agreed-upon amount (loan amount plus interest) each month, just like he would the bank. Sellers who either own their homes outright or have very low mortgage balances are in the best position to do this.

There are no points on the loan, which will save the buyer thousands in closing costs. Buyers have a real person to whom they can explain away any credit blemishes on their record. And best of all, since it’s a private loan between two people, you can negotiate the interest rate. A below-market mortgage interest rate may still be more than the seller could earn if he invests the proceeds of the sale in stocks or bonds.

Another upside for the seller is they can report the transaction as an installment sale and spread out the capital gain, avoiding having to pay it all at once. For retirees, getting a monthly check from a buyer serves as a nice steady income. And should the buyer default, the seller gets the house back without having to return the substantial down payment.

Agreements are recorded in the public records, which protects both parties. Some federal government legislation can also govern owner financing. It is smart to get  legal advice to make sure you are following the law.

For prospective homebuyers, rising rates should put some pressure on finding a home sooner than later. But a recent Redfin study found that just 21 percent of respondents said if interest rates went above 5 percent it would increase their urgency to buy a home, another 27 percent said they’d slow their search to see if rates come back down, and only 6 percent would stop looking for a house altogether because of rising rates.

In other words, people still aren’t paying attention to the one number that matters most.

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