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Top Factors That Determine Your Mortgage Interest Rate

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By Author: Rahul Kumar
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A mortgage loan is a type of loan where you can get money by providing your asset as collateral to a lender. This is a popular form of financing as it helps you avail a high loan amount and a fairly long repayment tenor. Three common types of mortgage loans are home loans, commercial property loans and loans against property.

Knowing what factors determine your mortgage loan interest rate can help you better prepare for the process of buying a house or property. Your lender would know how the interest rate is calculated, but this article aims to educate you about the same.

7 Parameters that Affect Your Mortgage Interest Rate

1. Credit Score

The credit score of an individual is a measure of their ability to pay back a borrowed amount based on factors like job status, salary, payment history etc. Customers with higher credit scores are likely to receive lower interest rates than those with lower credit scores. Keep in mind that before applying for a mortgage loan, it is important to check your credit score and resolve any disputes with the credit reporting company. You cannot increase your credit score overnight, but you can at least make sure it is not decreased erroneously.

2. Home Location

The location of your house will have a bearing on the cost of the asset itself - every city would have some area that's considered a posh housing locality - but lenders might charge different rates based on this too. It is better to check with many lenders and see who offers the best deal for the mortgage loan interest rate.

3. Down Payment

Down payment refers to the initial lump sum that you pay the lender as soon as the deal is finalised. The larger the amount paid as a down payment, the lower the interest rate, because a higher sum shows more commitment to the deal. If you cannot or don't want to make a down payment of the minimum required amount, lenders will require that you purchase mortgage insurance, which will require you to pay monthly premiums as well. So, analyse which option gives you the minimum total cost of borrowing.

4. Duration of Repayment

How long you take to repay the loan is an important factor because a longer duration means more risk simply because more events can happen in the meantime. So, a shorter-term loan has lower interest rates but higher monthly instalments. If your expenses are tight, you might not be able to afford a higher monthly payment, but if you are sure of a job promotion soon, then perhaps it is a risk worth taking.

5. Type of Interest Rate

The above-mentioned points assume a fixed interest rate, i.e. every month you pay a pre-decided interest rate on the principal. There are adjustable-rate mortgage (ARM) loans too, where the rates vary periodically based on some index like the LIBOR rate. For several months (especially in the initial phase), you can have a lower interest rate in this scheme compared to the fixed interest model, but there is always uncertainty as to how high the rate can go and how it will change. In other words, the overall cost could come down, but with the burden of additional risk.

6. Type of Loan

Some countries offer specialised mortgage loans for certain categories of people, each with a different interest rate. For example, in the US, the Department of Veterans Affairs (VA) offers loan programmes to help veterans buy homes, and the Rural Housing Service (RHS) offers mortgage loans for low or moderate-income families.

7. Inflation

Inflation is a gradual increase in the general price level of goods and services in an economy over time. Mortgage lenders generally have to maintain interest rates at a level that is at least sufficient to counter the decrease in purchasing power of currency due to inflation. Based on how gradually or drastically the inflation rates change, lenders might adjust the mortgage loan interest rates accordingly.

Conclusion

Buying a house or property is an expensive affair and reducing even a few percentage points on interest can save you a fortune. These seven factors are primarily responsible for determining the interest rates in mortgage loans, so you are now in a better position to weigh your options when you take a loan next.

More About the Author

Rahul kumar is an experienced financial analyst, researcher & writer. I have done MBA in Finance. I have worked extensively in the finance sector along with many organizations. I spend most of my time on the Internet reading finance related stuff and love to share my expertise with readers.

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