Learning how to get the best mortgage rate is an important part of getting a home loan. Over the course of a 30-year loan, the difference between a 4.00% interest rate and a 3.75% interest rate is more than $5,000 for every $100,000 you borrow. With larger loan amounts and larger interest rate differences, you’ll notice the impact on your monthly payment, too. Here’s what you should know to get the best mortgage interest rate.
10 Steps To Get The Best Mortgage Interest Rate
No matter where you’re starting from, and whether you’re applying for your first mortgage or your fifth, following these steps to get the best mortgage interest rate can save you real money—especially over the long run. These tips can help you whether you’re buying a home or refinancing.
REFINANCE ROADMAP: Forbes Advisor offers a pain-free guide to refinancing your mortgage and taking advantage of historic interest rates. Subscribe now to our free four-week newsletter.
1. Check Your Credit Scores and Reports
Any effort to secure the best interest rate for your mortgage should begin with checking your credit scores and reports with Equifax, Experian and TransUnion, the three major credit bureaus. Here’s an example of how to do this and what to look for.
At Experian.com, you can sign up for a free account that will provide your FICO Score 8 and broad insights on what aspects of your credit need improvement.
For $4.95, you can access your FICO Score 2, which Experian says is the credit score most mortgage lenders use.
Experian also offers a tool called Experian Boost that can improve your credit score slightly by including your utility and mobile phone bill payment history.
Review your credit reports and check for inaccuracies on any item that’s dragging down your score. You can open a dispute online, by phone or by mail if you see any problems.
AnnualCreditReport.com lets you get free copies of your reports (but not your scores) from all three credit bureaus. You can get a free report as often as once a week through April 2021.
Learn more about how your credit score affects your mortgage rate and whether it makes sense to pay for a special version of your credit score.
2. Work on Your Credit Score
If your score is below 760, it’s worth the effort to improve your credit score by taking steps to pay down your balances and make all your payments on time. Having excellent credit will make you eligible for the lowest mortgage interest rates. The Loan Savings Calculator from myFICO is a great tool for estimating how much you could save on your mortgage by improving your credit score.
If you’re putting down less than 20% on a conventional loan, excellent credit will also make you eligible for the lowest mortgage insurance rates. But even if you have bad credit, you might be surprised by your loan options.
3. Save Up for a Bigger Down Payment
When you make a small down payment on a home, the lender considers you a higher-risk borrower than someone who makes a larger down payment.
One place where you’ll see lenders account for this risk is with private mortgage insurance (PMI). If you put down less than 20% on a conventional loan, you’ll usually have to pay PMI premiums. Until you have enough equity to cancel it, PMI will affect you the same way a higher interest rate would: by increasing your monthly payment and your total borrowing costs.
Saving up for a bigger down payment can help you avoid PMI altogether. Even if you can’t put 20% down, you can pay less for PMI with a larger down payment. On top of that, a larger down payment can actually get you a lower interest rate.
The more of your own money you’re willing to invest in the property, the less risky you’ll be for the lender, and they may be able to offer you a lower interest rate.
Having trouble saving up? Check Down Payment Resource to see if you’re eligible for any down payment assistance programs in your area.
What if you’re refinancing? This strategy still works. You can bring cash to closing to increase your equity.
4. Consider a Shorter Loan Term
When you take out a 15-year fixed-rate mortgage instead of a 30-year fixed-rate mortgage, the interest rate will normally be lower. In mid-September 2020, for example, the 30-year rate was 2.87%, and the 15-year rate was 2.35%.
You also could consider an adjustable-rate mortgage. Its introductory rate may be lower than what you could get on a fixed-rate mortgage. It depends on the market, though: In mid-September, a 5/1 ARM had an interest rate of 2.96%.
Even if you can get a lower rate on an ARM, you’re taking a risk. It might be cheaper in the short term, but it could be more expensive in the long term. Why?
- No one knows what interest rates will look like when the ARM’s introductory period ends.
- There’s no guarantee you’ll be able to refinance or sell when the ARM’s introductory period ends.
5. Increase Your Income
All else being equal, who would you rather lend money to?
- Someone who earns $7,000 a month who will have to spend $3,000 (42.8% of their income) on their mortgage and other debt payments
- Someone who earns $8,500 a month who will have to spend $3,000 (35.3% of their income) on their mortgage and other debt payments
If you want to minimize your risk, you’ll pick the second one. The higher your income compared to your debt, the less trouble you’ll have managing your finances in tough times. If your finances indicate that you’re someone who will keep paying your mortgage if something goes wrong, lenders may offer you a lower rate. Ideally, your debt-to-income (DTI) ratio should be 36% or less.
“That’s great, but I can’t just start earning another $1,500 a month,” you might be thinking. We hear you. Fortunately, there’s another way to improve your DTI ratio.
6. Decrease Your Debt
Decreasing your debt instead of—or in addition to—increasing your income also can improve your DTI ratio. And while earning extra income to throw at your debt is one way to pay it down, cutting your expenses might be another way to do it. About 41% of homebuyers cut back on spending, canceled vacation plans or reduced monthly payments on other bills, according to the 2020 National Association of Realtors Home Buyer and Seller Generational Trends report.
Lowering your debt-to-income ratio isn’t the only way having less debt can help you get the best mortgage rate.
Carrying less debt also can improve your credit score. (Income, however, is not a factor in credit scoring.) According to Experian, the ideal credit usage is below 6%. This means that if you have $10,000 of available credit through your credit cards, you should try to keep your balance across all cards below $600.
7. Apply with at Least Three Lenders
Thousands of mortgage lenders are competing for your business. So another way to make sure you get the best mortgage rate is to apply with at least three lenders and see which offers you the lowest rate.
Each lender is required to give you a loan estimate. This three-page standardized document will show you the loan’s interest rate and closing costs, along with other key details such as how much the loan will cost you in the first five years.
Comparing loan estimates to get the best deal is not as straightforward as looking at the interest rate and APR, however.
- If you’re planning to keep the loan a long time, getting the lowest mortgage rate can be more important than paying the lowest closing costs.
- The opposite is true if you don’t plan to keep your loan for very long.
8. Watch Mortgage Rates
Mortgage rates fluctuate constantly. The short-term changes tend to be small, but you want to lock your rate when it’s at a level you can afford. If you can lock your rate when rates are trending down, even better.
- Prepare to take advantage of a possible rate drop by knowing what rates have been doing lately.
- When rates move in your favor, ask your lender to lock your rate.
For example, someone shopping for a 30-year fixed-rate mortgage in September 2020 would want to be aware that over the last year, average rates have ranged from a high of 3.78% in October 2019 to a low of 2.86% in mid-September, according to Freddie Mac’s Primary Mortgage Market Survey. The strongest borrowers should expect to lock their rate close to 2.86% if they’re paying 0.8 in fees and points.
But those are average rates. Why not try to get a better-than-average rate?
9. Decide Whether to Pay Discount Points
A discount point is basically a fee you can pay at closing to reduce your mortgage interest rate. Paying points can be worth it if you keep your mortgage long enough. If you refinance or sell within a few years, paying points may not be worthwhile.
- One point is equal to 1% of your loan amount, so if you’re borrowing $200,000, 0.8 points would cost $1,600.
How much can you lower your mortgage rate by paying points? It depends on market conditions, but a rate reduction of 0.25% per point is a good benchmark.
10. Don’t Make Any Big Moves
After doing all the work to improve your credit score and make yourself the strongest applicant possible, you don’t want to do anything that might jeopardize your standing with lenders. This isn’t the time to switch careers, nor is it the time to apply for additional credit. Try to keep everything the same as it was when you got approved for your loan.
Any big changes to your borrower profile could make you look riskier and force the lender to charge you a higher interest rate or even decide not to give you a mortgage at all. Your loan approval isn’t really final until you’ve gone through the mortgage underwriting process. Don’t give the underwriter any reason to think twice about letting you close.
Source: forbes.com