Understanding your interest rate
Mortgage interest rate, annual interest rate (APR), index, margin- what does it mean and which rate is worth your attention? Learn how to understand and evaluate your mortgage offer.
When comparing mortgage offers, interest rate is a usual go-to indicator for most borrowers. And it makes sense, since it expresses the price of the mortgage. Borrower borrows money to purchase a home. The lender sets a price or, in other words, interest rate for this option to use the money. As result the borrower must return principal and the calculated interest rate.
How the interest rate is calculated
At first, a lender calculates the index – the rate that expresses the price of borrowed money. There are several indexes that can be used for this purpose, the most popular in Latvia is EURIBOR. When EURIBOR changes, the index is adjusted too. Frequency for index adjustments is set in a loan agreement, for example, every 6 months.
Loan term for mortgage loans can be up to 30 years. That is why the lender also calculates a “price” for various risks, that can occur during this time. It is called margin. Risks for each borrower are identified individually. Margin usually is fixed and doesn’t change (however it is up to each lender, some lenders set it as adjustable).
The final mortgage rate is calculated by adding up index and margin, and it will be different for each borrower.
For example, 6-month EURIBOR, which is used as a base rate, is 0,5% at the time of closing. Additional rate for particular borrower has been calculated at 3.0%. Total interest rate for this borrower is 3.50%.Take a good look at both rates when comparing mortgage offers. Don’t forget to consider possible rate changes in the future and how that will affect your monthly payments.
Each lender sets their own policies and procedures for calculating interest rates. For example, DMC operates in international financial markets and for that reason uses internationally recognized variables set by international credit rating agencies.
Annual interest rate (APR)
APR in its essence is a standardized measurement for total costs of a mortgage. It has been introduced in the lending industry to protect consumer rights.
APR considers not only interest rate, but also closing costs such as origination fee, escrow account, document processing, loan term and others. These are expenses that differ among lenders. Most of these costs occurs before the borrower starts paying the mortgage and doesn’t impact monthly payments. That’s why APR shouldn’t be perceived as a “real” interest rate. If this value differs greatly among lenders, don’t get scared right away. Instead ask, what costs are included.
Can I impact my interest rate?
Traditionally there hasn’t been much room for a borrower to impact the mortgage interest rate. Lenders calculate the rate and that’s all that can be said. It’s possible that the lender will offer to lower the interest rate in exchange for “loyalty”. If the borrower agrees to purchase additional financial services such as credit card, insurance, salary account, the interest rate will be decreased. Instead of a mortgage offer the borrower is presented with a combined product, for example, mortgage together with salary account and life insurance.
Direct Mortgage Capital is a pioneer in the market, because the borrower does have an opportunity to adjust his/her interest rate to meet their financial needs. Interest can be lowered or increased by adjusting the size of the down payment or origination fee.
Interest rate is an important indicator when comparing mortgage offers. However, it shouldn’t be the only one. Make sure you read all loan terms, assess attitude and expertise of the lender, and think twice before accepting “loyalty” offers. Even if interest rate will be lower, you may end up spending the same or even more on financial product you don’t’ actually need.
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