Written by Charlotte Wood (last updated February 21, 2009)
So much goes into buying a home and there's so much to consider and keep in mind as you make those significant steps toward home ownership. One of those crucial factors is the interest rate that accompanies the financing of your home. It can seem like everyone's interest rate is different so what are the determinates of an interest rate? How does one person get a lower rate while another pay a higher?
Alas the factors that go into determining a home loan rate are just as complex as many of the other facets of home loans in general. First of all, your home loan rate, or interest rate, is the percentage you pay on top of what you borrowed; it's the price you pay for borrowing the money in the first place. You can't get any kind of formal loan without paying interest on top of the principal.
Several factors go into determining your home loan rate. Probably the most important factors that are considered are your credit score and your debt-to-income ratio and they operate on an inverse relationship. So the higher your credit score (meaning the better your credit score) and the lower your debt-to-income ratio, the better interest rate you'll have to pay. Conversely, the lower your credit score (meaning the worse your credit score) and the higher your debt-to-income ratio, the higher interest rate you'll receive. So unlike many may think, your interest rate isn't solely determined by your credit score, but very possibly, your credit score and ratio will be in the same spot, whether that be good or bad. (Your credit score can directly influence your debt-to-income ratio and vice versa.)
Another thing to consider when thinking about the interest rate determinates is the actual term of your loan. While the length of the term has nothing to do with what kind of interest rate you'll qualify for, the amount of interest you'll pay each month does affect your finances even further. (Usually you also have to qualify for a shorter term mortgage because of increased payments and your ability to pay them).
You can usually get a good idea of the ballpark of your interest rate by using your credit score and debt ratio and you'll find out for sure what you qualify for when your lender actually calculates all your numbers. While you may not be able to pinpoint your exact interest rate through your own calculations, using what you know about your own finances and financial history, you'll be able to make a pretty good guess and budget your money from there.
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