Mortgage Rates and Risk

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Mortgage rates are determined by risk. The more risk, the higher the rate.


Think of it this way. Say you have two friends who both want to borrow $100. One of your friends is very reliable. The other, well, not so reliable, and actually has a history of being behind on his bills. Who would you lend money too?


Now, think of this from a bank's point of view. If a customer plans to make a home purchase and has 10% to spend as downpayment, as well as good credit, they are likely to receive preferred financing rates. The same customer, with no downpayment, is going to receive a higher interest rate from a lender. Basically, the individual who put 10% down has more to lose if they walk away from the house, making them a lower risk investment.


The higher the risk - the higher the rate. Some risk factors to consider:


  • Bad Credit means you are less likely to pay bills on time, which is a risk.

  • Lower Down Payment means you have less to lose if you walk away from the home.

  • Investment properties are less secure than primary residences. If you get in financial trouble, you are more likely to let your investment property go before your primary home.

  • A higher debt ratio means you have less money to pay your bills, so it's higher risk.

  • Loan Amount - the larger your loan is, the higher the rate. This normally starts to apply once rates go above the conforming loan limit into a jumbo mortgage.

  • Longer Term locks are a higher risk. Normally rates are locked for 30 days. For each 15 days longer than 30, the rate goes up about 1/8th of a percent (.125%). Once you get beyond 60 days, most lenders ask for a non-refundable deposit up front to lock the rate. Why? The longer the rate lock, the more risk is involved prior to closing.