Determining Interest Rates Mortgage Companies Charge

The interest rates mortgage companies charge for home loans is a critical factor in determining monthly mortgage payments. Negotiating for the best interest possible greatly reduces costs on a monthly basis and over the life of the loan.

Determining interest rates

The starting point lending institutions use to determine their interest rate for mortgages is the rate charged by the Federal Reserve Bank. As the Federal Reserve adjusts its rates, up or down, mortgage lenders follow suit. (Bear in mind that the interest rate differs from the Annual Percentage Rate (APR). The APR is what the annual cost of the loan is, with costs and fees added included.)

Using the Federal rate as a baseline, mortgage lenders then begin the process of assigning interest rates for various types of loans and the conditions that accompany them. The amount of the loan and the interest rate borrowers pay is directly affected by their credit rating or history, their ability to meet monthly payments, and their collateral – usually the value of the property itself.

Because lending money is considered a risk, and banks want to recoup their investment, interest rates are assigned according to that perceived risk. Those who are the most likely to repay the mortgage according to the terms of the loan are considered the least risky and are assessed the lowest interest rates. Those believed to be less or least likely to repay a loan are assigned higher interest rates.

The Borrower's Portfolio

Credit - The better a borrower’s credit rating is, the lower the interest rate that will be charged. The reason behind this is that a better credit rating is an indicator that the borrower will, in all likelihood, repay the mortgage. As the credit rating decreases, the interest rates mortgage lenders charge.

Capacity – The ability of the borrower to meet monthly loan obligations is another factor. The mortgage underwriter will look at the borrower’s salary, employment history, and monthly expenses to make this determination.

Collateral – Interest rates are affected by the collateral a borrower has when the loan assumed. Typically, the property is used, and its value in relation to the amount borrowed is taken into consideration. If the greater the difference between the amount of the loan and the value of the home, the lower the interest rate that will be made available. The closer the two figures are, the higher the rate.

Loan Type

The type of loan assumed is also a factor. Fixed Rate Mortgages (FRMs) and Adjustable Rate Mortgages will start with the lowest rates. Subprime mortgages, Jumbo mortgages, and Super Jumbo Mortgages all have noticeably higher interest rates, due to increased risk factors.

With all of the different loan options, and the wide range in interest rates mortgage companies charge, an educated borrower is in the best position obtain the best terms. Researching, planning, and working with competent and reputable firms ensures that an individual looking for a home loan can acquire the best interest rates available for a mortgage.

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