A reader sent me an email with a question about rising interest rates and lower home prices.

It started me thinking, how high would interest rates have to go to offset lower home prices?

I think a case could be made that the average and median home price in Massachusetts (and across the US) might drop over the coming year or two (although prices haven’t dropped, at all, even as the number of properties on the market has increased).

What will interest rates do over the coming couple of years? Go up a point? Two? Can’t be more than two, right?

So, consider this scenario:

Imagine you are thinking about buying a $500,000 home today, but also considering putting it off for three years.

Buy today:

New home price: $500,000
Current mortgage loan interest rate: 6% (30-year fixed rate)
Monthly mortgage loan payment (no down payment): $2,997

In three years:

New home price: $400,000 (assumes a 20% drop in home prices)
Projected interest rate: 8% (30 year fixed rate)
Monthly mortgage loan payment (no down payment): $2,935

So, coincidentally, your monthly payment will be almost exactly the same, if home prices drop 20% but home loan interest rates go up 2%.

If you think prices will drop by more than 20%, or think interest rates will increase less than 2% over the coming years, then you could conceivably wait, and end up spending less, per month.

(Be serious, are you going to wait? If you want to buy, now, you’re going to buy, now.)

But, there’s one other variable.

What if you’re selling a home, in order to buy a new one?

If you sell today, will you make more of a profit than you will in 3 years? In this scenario, you will. Remember, you are hoping home prices drop by 20% over the next three years – but that’ll hurt you when you sell your own home, too.

Suppose you are selling a $400,000 home, and that you have half of it paid off, or $200,000. That means the remainder will be your profit – $200,000.

But, suppose within 3 years, the market has softened, and prices have dropped in your town by 15%. This means you can only sell your home for $340,000, instead of $400,000.

Your profit just went down $60,000, to $140,000!

Here are the revised figures:

Buy today:

New home price: $500,000
Down payment: $200,000
Current mortgage loan interest rate: 6% (30-year fixed rate)
Monthly mortgage loan payment (no down payment): $1,798.00

In three years:

New home price: $400,000 (assumes a 20% drop in home prices)
Down payment: $140,000 (assumes you sell your current home for 15% less, or $60,000)
Projected interest rate: 8% (30 year fixed rate)
Monthly mortgage loan payment (no down payment): $1,907.00

So, you’ll end up paying $109 more, per month, three years from now, if interest rates go up by 2%, even if home sales prices go down.

Of course, if you rent now, or sell your home, rent for three years, then get back in, you might be able to work the market in your favor.

Why play that kind of game?

I guess I don’t think interest rates will be going up much, within two to three years – certainly not above 9%, at the most, right? I don’t think the housing market will see anything close to a 20% drop, either, but I’m just not sure.

Contact me to find to set up an appointment to start your Boston condo buying process.

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Updated: January 2018

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