How Your Mortgage Rate is Determined
Updated: Jun 29
Key components that determine your interest rate
When mortgage rates are touted on the news, for whatever reason, my phone tends to get a lot more attention than normal. No surprise- when rates are falling, that means there’s opportunity- right? For most, this certainly can be the case.
The truth is that interest rates, when reported by media outlets, are typically the average going rate as reported by an entity such as Freddie Mac. However, everyone doesn’t get the same rate/fee combinations (mortgage options).
Mortgage options are entirely scenario specific and can vary a great deal depending on a variety of factors. So, if your coworker just told you about their purchase or refinance and the amazing rate they received- your options could end up being better or worse. In this post, I’m hoping to shed more information on the main factors that affect your guaranteed rate, outside the general mortgage market, so you are empowered with advanced knowledge and know what to expect.
The amount you borrow has a significant impact on your guaranteed rate. This usually comes as a surprise to many but if you think about it, it makes perfect sense. Would you rather be paid $10/hr or $50/hr for the same job? Ultimately, mortgage lenders and servicers are compensated on how much they lend. It takes just as much work to do a $100,000 loan as it is to do a $500,000 loan. For that reason, it is typical to see higher loan balances receive superior mortgage options (up to a point).
Loan to Value (LTV) / Equity
The amount of a loan versus the value of the subject property shows how much equity is available. The more equity or down payment you have, the less risk your loan is to investors. In most cases, a lender will give favorable mortgage options to a borrower that has more equity in the home.
Government loans like Veteran Affairs (VA) or Federal Housing Administration (FHA) often have different rates than conventional mortgage loans. Since these loans are federally insured, they are less risky to investors. Therefore, their rates generally run lower; however, this may not always be the case. Determining if a conventional loan or a government loan is better for you is something that would be advised during consultation.
A borrower’s credit profile is one of the biggest factors that determine eligibility and the overall mortgage options available. There are different tiers of credit that determine what you’ll receive. Keep in mind, a Mortgage Credit Score is likely to be different than a general credit score. This is because there is a completely different algorithm is used by credit bureaus (FICO 2, 4, 5) to determine credit worthiness for a mortgage -VS- general credit you would see with services like credit karma (Vantage Score).
Single Family homes are the least risky product to investors because individuals are most likely to pay their own house payment than a second home or investment property. Second Homes and Investment properties will not receive as favorable mortgage terms because historically, they are more likely to default.
Single Family homes (SFH), whether detached or attached (townhome/row home), as well as site/detached condominiums have historically performed better for investors than condominiums or multi-unit properties. A SFH is also easier for investors to sell in foreclosure situations. Not limited to these reasons, condominiums and multi-unit properties are considered a riskier investment and will often not have as favorable mortgage options.
All the above factors are combined in an algorithm to decide individual mortgage options available to each borrower. Each of these factors also affect each other. For example, a credit profile may not be weighed as heavily if there is substantial equity in a property.
There are other factors that can affect your guaranteed rate as well; however, the items we reviewed are most common in determining your loan options. When you see an advertised rate, look at the fine print and you will see these details outlined. Unfortunately, there isn’t a way to advertise all rates with all scenarios at any given time- which is why it is best to follow average rates rather than advertisements. It is best to complete an application with a qualified mortgage professional so they can accurately review your specific scenario and learn more about your overall financial goals. Consultations go a long way in determining what will work best for you, and having an experienced loan officer with a fiduciary approach is worth it's own weight in gold.