by Broderick Perkins
(7/30/2012) - Wanda Smythe from Appleton, WI is elated that a seller
accepted her offer to buy a home, but is concerned about when to lock in the
An interest rate lock guarantees you a certain rate, and other costs, for
a given term. Provided all the terms and costs are clearly stated, in
writing, it's a good hedge in a rising rate market and a good tool to use to
lock in a rate based on what you can afford.
Smythe has excellent credit and more than 20 percent down for a 30-year,
fixed rate conforming mortgage at 3.6 percent, but lives on a fixed income
and can't squander a cent.
The lender suggests she lock in the rate immediately. Her loan is due to
close in 40 days. Assume the rate lock is a 45-day deal, and the loan closes
in 40 days, giving her ample time to close with the rate locked.
Smythe is concerned that if she locks too soon she'll miss an even lower
"I personally believe the rates will keep going down, though people think
I'm crazy. I live on disability income, so every bit counts," Smythe
Smythe isn't crazy, but making a decision will require her to gamble on
interest rates and she must work some numbers.
Which way rates?
Rates have been trending down for weeks, and the Federal Reserve has all
but promised to keep benchmark rates low well into
2014. The world economy and a struggling domestic economy, still troubled by
a housing crisis that hasn't quite run its course, also add downward
pressure on mortgage interest rates.
Recently, the average 30-year fixed rate has fallen to a new record
low for each of four consecutive weeks ending July 26, according to Freddie
However, no one can predict if the trend will continue, if rates will go
up or down, nor by how much. Pledging to keep federal benchmark rates low
may not always translate to falling interest rates.
Compared to past strings of consecutive record lows, the current one is
rare and unusually enduring. Statistically, that means another four weeks of
falling rates isn't a good bet.
Smythe has good reason to pinch pennies, but she may be just a tad over
wrought about her potential for saving money.
Do the math
Let's say the stars align in her favor and rates continue to fall for
another four weeks at the same pace they've fallen in the past four weeks,
ending July 26 - from 3.66 percent to 3.49 percent, a difference of 0.17
And let's say her rate dropped by an identical margin, from 3.6 percent
to 3.43 percent.
ZIllow puts the median sale price of homes in Appleton, WI at about $115,000. Deduct her 20 percent
down and she's financing $92,000.
Erate.com's calculator says her payment at 3.6 percent would be
about $418 a month. At the lower rate of 3.43 percent, the payment would
drop to about $409 - a difference of only nine bucks. Even if rates drop
more, say to 3.25 percent, and that's a stretch, the payment would be about
$400 a month, an $18 a month savings.
Is saving $9 or $!8 a month really worth the risk of rates turning around
and costing an already strained fixed-income household a higher payment?
Probably not, especially if Smythe's budget can manage a $418
It's probably easier to save $9 to $18 a month elsewhere in the budget,
without the risk.
Rate lock considerations
Smythe may be able to eat her cake and have it too with a rate lock that
includes a "float down" provision.
The common rate lock protects borrowers against rising rates.
Floating locks comes with the option of a lower rate should rates fall
within the term of the lock.
As is the case with all rate locks, everything must be clearly stated in
writing. Unless specified otherwise, float downs can stick you with a higher
rate if rates rise during the lock period.
Finally, rate locks cost money. Float downs, typically cost more than a
conventional lock because the lender is taking on a greater risk that it
will have to write a loan with a smaller return.
Again, Smythe has to gamble and do the math, first to wager if she'll
actually realize savings from the cost of the float down and then to
calculate if the cost of the float down - with or without a cheaper rate -
makes sense to her tight budget.
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