Understanding the 1% Equals 10% Rule for Mortgages

In this blog we will discuss the 1% equals 10% rule for mortgages. This is a very useful tool that all Realtors and home buyers should know. It helps you understand how much mortgage rates affect your purchasing power. We will discuss some background knowledge about budgeting and mortgages, and then we will go over the rule.

Focus on Monthly Costs, Not Just Sale Price

A buyer tends to focus on the total sale price, but another way to look at it is by what it will cost you each month. Understanding your monthly mortgage payments can provide a clearer picture of your financial commitment.

The Stability of Fixed-Rate Mortgages

When you pay rent to a landlord, your rent can potentially go up as often as the landlord wants, depending on your lease. On the other hand, most home buyers are getting a fixed-rate mortgage. The bank loans you the total price of the home and charges interest, but that interest rate is often a “fixed rate,” which means the principal and the interest payment on that loan will stay the same over the entire mortgage term – often 30 years.

How Interest Rates Affect Your Monthly Payment

When you get a mortgage, it’s the interest rate that determines what you’ll pay every month. While higher property taxes or insurance can increase the payment in the future, the payment on the loan will always stay the same in a fixed-rate loan.

The 1% = 10% Mortgage Rule

However, if the interest rate goes up, even just 1%, that will negatively affect how much you can borrow. A good rule to remember is that a 1% increase in mortgage rates will equal 10% less you are able to borrow while keeping your monthly payment the same. For example If you can afford a $100,000 loan at 5%, you will be able to afford about $90,000 if the mortgage rate was 6% to keep the same monthly payment.

Putting Mortgage Rates Into Perspective

Although the average 30 year fixed mortgage rate is still hovering around 7%, they were 8+% in 2000, 9+% in 1994 and 15+% in the early 1980s. If price increases ease, the Federal reserve will be confident to cut the federal funds rate, and we can expect mortgage rates to go down as well.