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How Mortgage Rate Hikes Could Help or Hurt Your Chances of Buying

By Amy Zimmer | March 31, 2015 8:09pm
 Rate hikes affect purchasing power but also might change the dynamics of the NYC market.
How Mortgage Rate Hikes Could Help or Hurt Your Chances of Buying
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MANHATTAN — Mortgage rates can determine what many house hunters can afford, which is why the specter of looming rate hikes is causing some jitters.

Though the Federal Reserve hasn't announced exactly when or by how much rates will rise, Chairwoman Janet Yellin said last week that the jump will likely be at a slower pace than in previous economic recoveries.

Because of that, there's no need to panic, brokers said. Still, many are urging buyers who rely on financing — those usually in the market for below $1.5 million — to try to hurry to get into contract while rates are still at historic lows.

"The overall rule of thumb is for every 1 percent [of a rate increase], it affects your purchasing power by 12 percent," said Ron Riemer, a mortgage broker with Douglas Elliman Capital.

That means, if you're able to afford a $1 million home at the current rate of 3.75 percent, you'd have to downgrade to an $820,000 home at a rate of 4.75 percent.

Riemer, who anticipates that rates might rise in July or August by a quarter or a half percent, advises prospective buyers to "get comfortable [with] and qualified for" the event of a rate hike.

"It won't happen overnight. But people should be prepared," said Riemer.

Here are some predictions from real estate experts.

1. Apartment prices might spike in the short run…

Because house hunters might feel a sense of urgency to buy before the rate hikes hit, don't expect any slowdown of bidding wars for apartments under $1.5 million — which in many parts of the city is considered the price point for entry level buyers.

"People really do feel that the money is cheap," said Michael Greenberg, CEO of Level Group. "So, they are really stretching to come up with additional cash needed to close."

While spring and summer tend to be peak buying seasons anyway, a lot of "fence sitters" may come out now, too, and a spike in the already-high demand may force prices to rise even "more quickly than they should," Greenberg said.

2. …But then prices will stabilize

When prices shoot up too quickly, appraisals needed for loan approval can't keep up — as has happened in recent years. When there's a discrepancy between the loan and the sale price, it could kill a deal or force a buyer into putting more cash down to cover the gap.

Greenberg predicts that this could become a common problem, which will force the market to "correct itself" and reign in prices later in the year.

Higher rates also might put a damper on bidding wars, said Jason Lanyard, of Stribling, who works with many investors who've been snatching up 2-bedrooms condos in the $1.5 million range, which they then rent out.

"I have buyers looking down to the decimal point in terms of profit," said Lanyard, who believes these buyers might be forced out of the market, along with many first-time buyers, if rates increase. "It's not that they don't trust that the properties are going to appreciate. It's that they need to be cash positive."

Still, since there's a deep well of foreign buyers paying all cash, Lanyard doesn't expect prices to plummet.

Also, though it's a commonly held belief that higher interest rates mean lower home prices, there actually isn't a strong correlation between the two, real estate expert and appraiser Jonathan Miller said.

"When interest rates rise, it means the economy is getting better," Miller said.

While there could be some price "slippage," he said, if employment remains strong, so will housing prices.

"The market will take a breath [and] go from frenzied to hectic," Miller believes.

3. Credit might finally loosen, and that could help inventory.

Tight credit has been an issue for many would-be homebuyers since 2008, Miller said, explaining how lenders have focused on "removing any hint of risk," requiring higher credit scores and other stringent qualifications. 

The Fed's decision to increase rates will likely encourage banks to loosen credit, and that might help address the logjam of low inventory, Miller believes.

Homeowners — who hadn't been able to buy in the current market — will finally be able to do so, and that means they can sell their own apartments.

4. Changing rates could hurt some co-op and new development deals.

If rates rise after you go into a contract for a co-op, it could change your monthly costs and therefore affect the low debt-to-income ratio that boards require of buyers (which is calculated by adding up your monthly debt payments and dividing it by your gross monthly income).

Co-ops are sometimes more stringent than banks, so you might still qualify for the mortgage but not pass the board if your purchasing power changes, Riemer noted.

"The last thing you want is you get bank approval, and then rates spike, then the customer is no longer approved by co-op," he said, explaining why some buyers like to lock in a rate when they sign a contract, which can be set for 30, 60 or 90 days. 

The cost for locking, however, can raise rates slightly higher.

This poses bigger problems for buyers looking at new developments, where closing dates are often moving targets, Lanyard said, noting some clients in contract have seen several delays on closing dates.

"It's a penalty every time you extend the lock rate," Lanyard said. "You can't just do it ad infinitum."