Understanding mortgage and construction loan interest rates can be confusing. In order to build a house you will need both a construction loan and a mortgage loan. The term of your construction loan is either one year or when your home is complete. After completion of the home, a mortgage loan will take effect and the term of your mortgage loan will be between 15 and 30 years.
The term of the construction loan is less than one year, and interest rates are not charged until the money is spent by your home builder. If during the third month of construction your builder has only spent $40,000 on building your home, you will only pay the interest on $40,000 which is a very small payment. In the sixth month if he has spent $100,000 then you make an interest only payment based on the amount of $100,000 for a month of interest.
You will make between 6 and 12 of these monthly interest only payments, and most of them will be very small, so interest rates on construction loans aren’t as important as interest on a mortgage loan. Later when you are making mortgage payments the interest rates will be much more important. In less than one year, your construction loan will be paid in full by your mortgage loan and from then on you will have a mortgage. Mortgage interest rates are very important, because of the length of the loan and the fact you will be paying both interest and principle on that loan for either 15 or 30 years.
Interest rates are very low, with no signs of significant increase in the near future. This is good news for home buyers. Even so, with a 30 year loan you could pay twice the loan amount over the course of the loan. You will pay $171,871 for a loan in the amount of $100,000 at 4 percent for 30 years. That’s right you pay $71,871 in interest. The good news is that you’d only be paying $477.42 each month, which is less than rent in many cases. Still it’s not a real bargain over time, since you’d be making 360 of those payments. There are ways to pay a lot less interest on your loan.
By selecting a shorter term loan, you will pay a lower interest rate over a shorter period of time. This means a lot less interest. Payments will be a little higher but the overall cost of your home will be dramatically less. We know from dealing with credit card minimum payments that loans can be made to drag on forever racking up interest and other charges. A 30 year loan barely pays anything more than interest for the first ten years. It is much better to take a 15 year loan than to pay all that extra interest over 30 years.
As in the example above, if you borrowed $100,000 for only 15 years, your interest rate would be lower, probably about 3.25 at the current rates. You would make 180 monthly payment of $702.67. That adds up to $126,408.60 over the course of the loan. By using a 15 year loan, you just saved $45,463.
Making extra payments, especially near the beginning of a loan can take years off the length of your payments. If you do not want to commit to the larger payments of a 15 year loan, you can make extra payments on your 30 year loan and still pay it off quickly and save on interest. Doubling up on payments whenever possible with a 30 year loan could result in paying off your mortgage in less than 15 years. If you cannot afford a full extra payment each month you may add another $100 or $200 whenever you can to lessen the term of your loan, and pay less interest. An extra $200 a month each month could pay off your home in 18 years, not 30. and your interest would be only $37,894.00
Another way to save on your interest rate is to clean up your credit to get the best rates. A good credit rating can make a huge difference in your interest rate. Not only that, if your credit is not good, you may not be able to get a loan at all. By paying all your unpaid bills, paying your bills and utilities on time, and not maintaining a balance on your credit card, you can save a lot on interest rates.
By using a mortgage broker or shopping on line for the best rates, you can save up to a percent on your interest rate. Just one percent could save you about $9000 per hundred thousand on a 15 year loan, and over $21,000 on a 30 year loan.
Saving money on interest rates can make a huge difference in what you actually pay for your home. It is so easy to get caught up in just how much you can borrow, but in fact the less you borrow, and the sooner you can pay it off, the more secure your family will be in the future. Mortgage and construction loan interest rates are low, and it is a very good time to buy, but it is also a good time to shop for the best rates, and pay off your home quickly.