Should I Wait for Interest Rates to Go Down if Sales Prices are Going Up?

interest rates to sales prices
Interest rates could be more important than sales price but it depends on how much time you have to wait. © Big Stock Photo

Question: Should I Wait for Interest Rates to Go Down if Sales Prices are Going Up?

A reader asks: "Timing interest rates and price increases is tricky. My wife and I have watched sales prices in Phoenix drop to the point where it now makes sense for us to buy our first home. Interest rates are pretty low, too. So, we got to talking this and wondered which is more important. Interest rates or sales prices? Is it better for sales prices to go down even if interest rates go up? Or, should we wait for interest rates to go down if sales prices are going up?" -- Phoenix Guy

Answer: It's questions like these, Phoenix Guy, that make me want to put first-time home buyers on a Ferris wheel and leave them there, spinning. Going around and around and around until they are so dizzy they can't remember what they asked about sales prices vs. interest rates. It hurts my head to think about it, but I'll give it a shot.

Whether sales price is more important than the interest rate depends on your perspective. All real estate is local. This means whatever is happening in your local market in Phoenix, for example, could vary wildly from, say, the market in Manhattan. It's pretty much impossible to time the real estate market, but you can try to take advantage of the way the market moves.

Like Bono sings, "she moves in mysterious ways," you can't always predict how the market will move. But you can watch it move. Let's look at historical interest rates for a 30-year fixed-rate mortgage.

Generally, the rule of thumb is when interest rates go up, sales prices move down to compensate, but not always.

Rising Sales Prices vs. Declining Interest Rates

Say you are comparing a home in Phoenix that was worth $240,000 and your interest rate is 4.5%. If you were buying in a declining market and waited until that price fell to $210,000 but rates went up to 6.5%, you might be better off buying at the higher price.

Yes, it is true. A payment on an 80% LTV mortgage for a $240,000 home at 4.5% is $972.84.

A payment on an 80% LTV mortgage for a $210,000 home at 6.5% is $1067.87.

Put another way, if you paid $30,000 more for the home by paying $240,000 and lived in that home for 30 years, by the time you paid off your loan, you would have paid a total of $350,222.24.

If you paid $30,000 less by paying $210,000 but paid on the higher interest rate for 30 years, by the time you paid off your loan, you would have paid a total of $384,433.20. In this instance, it is not better to pay less in exchange for a higher interest rate.

How Much Do You Lose in Sales Price With Each .50% Interest Rate Hike?

Let's now compare that home at $240,000 if rates went up 1/2 point and you wanted to keep your payment the same. The amortization of most mortgages is for 30 years. If your down payment is 20% of the sales price, how much of the home could you buy to keep your payment around $975?

  • $240,000 x 80% at 4.5% interest equals a payment of $972.84
  • $226,260 X 80% at 5.0% interest equals a payment of $971.65
  • $214,062 X 80% at 5.5% interest equals a payment of $972.34
  • $202,500 X 80% at 6.0% interest equals a payment of $971.27
  • $192,188 X 80% at 6.5% interest equals a payment of $971.80

You can see that a 2% increase in an interest rate would lose you about $50,000 of purchasing power in this price range. If you doubled the sales price, you would lose about 100,000 of purchasing power for a 2% spread in interest.

This is why interest rates play a huge factor for many first-time home buyers. If you are stretched too close to the top end of your price point and rates go up, you might not be able to buy that dream home you want because you will no longer qualify for that sales price. And, just so you know, making a lowball offer is not always the answer.

At the time of writing, Elizabeth Weintraub, CalBRE #00697006, is a Broker-Associate at Lyon Real Estate in Sacramento, California.