How to get the best home loan rates
By paying down debt and strengthening your credit, you can secure a lower interest rate and make your mortgage more affordable.
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Interest rates are higher than they’ve been in years, and unlikely to drop in the immediate future. The Federal Reserve board announced after its July meeting that it will keep its benchmark interest rate unchanged for now, with a cut possible in September if inflation continues to improve. While a cut on the horizon is encouraging, the real estate market continues to present a challenge for even the most creditworthy buyers.
If you’re in the market for a home, you’re likely wondering how to get the best home loan rate. Learn what you can do to get a mortgage interest rate as low as possible so you can purchase an affordable home.
6 steps to get the best home loan rates
While you can’t control mortgage rates overall, you can optimize your finances and homebuying choices to get the best rate possible on your mortgage. Here’s how to get the best home loan rates available:
1. Strengthen your application
Lenders analyze your financial profile to determine the level of risk they assume when issuing you a mortgage. The less risky you appear, the lower the interest rate lenders tend to charge. Banks and mortgage lenders analyze a few key points of information:
- Debt-to-income ratio (DTI): This metric measures your total monthly debt payments against your gross monthly income. Most conventional mortgages require a DTI of 43% or lower. Paying off debt before you apply for a mortgage loan may be a good move if your DTI is high.
- Credit score: This number reflects how well you’ve handled debt in the past. Factors such as your payment history, the amount of debt you have, and the length of time you’ve had credit comprise your score. To raise your score, pay down your credit card balances and avoid taking on new debt before you apply for a mortgage. You can also look into mortgage programs designed for buyers with lower credit scores.
- Income: Having a history of reliable income signals to the lender that you’re likely to repay your loan. If you’re self-employed or your income is variable, being able to show a longer track record of steady income can prove to your lender that your finances are in good order.
2. Increase your down payment
Having a large down payment helps keep your mortgage costs down in a few ways. For one, a sizable down payment shows the lender you have skin in the game; you can’t walk away from your mortgage without losing a substantial investment of money.
A bigger down payment also reduces the loan-to-value ratio (LTV). This is how much of the cost of the home is financed; higher LTVs generally carry higher interest rates.
3. Consider different loan types
Your interest rate will vary depending on what type of loan you choose. Conventional loans are guaranteed by a private lender, who typically assumes the risk if a borrower defaults. Government-backed loans (such as VA or FHA loans) are insured by a government agency, which will repay the lender if the borrower defaults. Thanks to that guarantee, these loans often have lower interest rates.
Lenders sometimes have in-house promotions and mortgage programs that may come with lower interest rates.
4. Explore shorter loan terms
If you can afford a larger monthly mortgage payment, consider reducing your loan term from the typical 30 years to something shorter, such as 20 or even 15 years. Many lenders can adjust the terms of the mortgage to fit your budget.
Note:
Reducing the payback time for the loan can reduce your interest rate significantly. As an additional bonus, you’ll pay less interest on the loan overall when the term is shorter.
5. Shop lenders
Each lender has its own parameters to assess potential borrowers, so it’s worth your time to shop around and get pre-approved with multiple lenders. Your offers may vary quite a bit. In addition to different interest rates, lenders also may charge different fees for underwriting, origination, or escrow, so it’s important to do your research. Some banks might offer benefits to existing customers, such as an interest rate discount or lower closing costs. When you shop lenders, compare the annual percentage rate (APR) each one offers; this will reflect the total cost of your loan, including interest and fees.
6. Consider paying mortgage points
Your lender might allow you to pay more upfront at closing to reduce your interest rate. Generally, one mortgage point reduces the interest rate by 0.25 percentage points (though this amount can vary by lender). One point costs 1% of the total loan amount.
For example, if you decide to purchase two discount points on a house with a $400,000 loan, you’ll pay $8,000 at closing to reduce your interest rate by 0.5 percentage points.
If you plan to keep your home (and your mortgage) for many years, this can save you a substantial amount in interest over the life of the loan. If you suspect you may move or refinance in the near future, it might not benefit you to pay more upfront for mortgage points. Use a mortgage points calculator to find your “break-even point” — how long to keep your mortgage before the upfront investment starts to pay off. If your break-even point is in 15 years, and you hoped to move or refinance in 10, it wouldn’t be worthwhile to buy discount points.
How are mortgage rates determined?
The Federal Reserve sets the federal funds rate — the rate at which banks lend money to each other. This sets a floor for mortgage rates, as banks mark up their lending products from that rate. When the Fed raises the federal funds rate, mortgage rates rise, too.
Mortgage interest rates also mirror the U.S. Treasury market. Mortgage interest rates tend to be slightly higher than these securities so they can remain competitive.
How much could you save with a lower mortgage rate?
Interest accounts for a large portion of a mortgage payment, particularly at the beginning of the payback period. Even small reductions in your interest rate can potentially reduce your monthly payment and total interest payments.
Let’s look at an example. Say you made a down payment of 10% on a $400,000 home, making the total loan amount $360,000. Here’s how various interest rates can change the monthly payment on a 30-year mortgage:
Keep in mind:
These numbers only reflect principle and interest; property taxes, homeowners insurance, closing costs, and other charges will add to the monthly payment amount.
What other factors affect your home loan rate?
Your home’s location may influence your interest rate as rates can vary between cities and rural areas, or even state to state. The Consumer Financial Protection Bureau lets you search average interest rates by state to see the rate you could expect based on the area where you want to buy.
If you’re shopping for an expensive home, this can also affect the interest rate. Jumbo loans exceed the limits for mortgages that can be sold to Fannie Mae and Freddie Mac — $766,550 in most areas and $1,149,825 in high-cost areas. Larger loans represent more risk to financial institutions, which lenders offset with higher interest rates.
Home loan rates FAQ
Will mortgage rates drop in 2024?
The Fed voted to maintain the federal funds rate at 5.25% to 5.5% in its July 2024 meeting. Since the federal funds rate influences the rise and fall of mortgage rates, it’s unlikely that mortgage rates will change until the Fed votes to lower the federal funds rate. Still, Federal Reserve Chair Jerome Powell said on July 31 that committee members were "closer” to cutting interest rates, likely in September, if inflation cools as hoped.
How can I improve my rate?
The most impactful steps you can take to get a better rate include raising your credit score, lowering your DTI, and ensuring you have sufficient income to qualify for the mortgage amount you want. According to myFICO’s Loan Savings Calculator, raising your credit score from 620 to 640 could save you thousands in interest for a 30-year loan. You can improve your credit score by making payments on time, paying down your debt, or becoming an authorized user on someone else’s account.
You can improve your DTI by paying down credit cards, asking lenders to lower your interest rate, or consolidating debt. Since DTI compares debt payments to monthly income, you can also improve this ratio by increasing what you earn by asking for a raise or picking up a part-time job.
How soon can you refinance a loan?
Some lenders make you wait six months before you can refinance your loan. However, there’s nothing preventing you from refinancing with a different lender. Before you refinance, know what closing costs you’ll have to pay on the new loan as well as any early payoff fees your lender charges. Make sure you’ll save more on your new loan’s interest rate than the amount you’ll pay in closing costs.