Sunday, November 28, 2010

The Difference Between Real Mortgage Rates and Our Current Phony Rates Could Wipe Out Your 20% Down Payment

Speculators in the housing market have been the beneficiary of a once in 100 year event.

Over the last 25 years interest rates have collapsed from 18% to 4.5%. This has allowed home buyers to borrow 200% more than they could in 1985.

This is how the numbers work:

In 1985 a $1,800 mortgage payment would purchase a $150,000 home at a mortgage rate of 18% and 20% down.

Today a $1,800 mortgage payment will purchase a $450,000 home at a mortgage rate of 4.5% and 20% down.

The collapse in rates has directly caused a tripling of home values over the last 25 years.

It’s simple math.

This math works in reverse also:

Today a $1,800 mortgage payment would purchase a $465,000 home at a rate of 4.15% and a 20% down.

Tomorrow a $1,800 mortgage payment would purchase a $381,300 at a rate of 6% and a 20% down.

This $83,700 loss is due to mortgage rates changing from 4.15% to 6%.

What is the possibility that rates will go from 4.15% to 6%?

I would like to suggest that "real" mortgage rates are 6% now.

Over the last 2 years the government has used Fannie Mae and Freddie Mac to take over the mortgage market. 95% of the loans are government guaranteed. Also the Federal Reserve has committed to at least 2 trillion dollars of asset purchases to manipulate interest rates.

I think it is safe to say that today we don’t have real interest rates. They are being manipulated by the government.

What would they be if the government was not spending trillions of taxpayer dollars to manipulate the market?

One could argue that without the trillions of dollars of government intervention mortgage rates could be at 6%. This is far below the average over the last 25 years.

A change from a manipulated 4.15% mortgage rate to a “real” 6% mortgage rate would mean the immediate loss of 18% in purchasing power or $83,700 on a $465,000 home.

Add the 2% purchase costs to this 18% interest rate loss and you have basically wiped out your 20% down payment.

If you are purchasing a home now in a phony interest rate environment and plan to sell in 5 years at a real interest rate you have already lost your down payment.

There is one last variable to consider. It takes over 6 years of mortgage payments on a 30 year mortgage to gain enough principle to prepay the closing costs when you sell your home.

So if you buy today and sell in 5 years not only could you lose your down payment but you will also need to bring a $5,400 check to pay the balance on the $26,600 in closing costs to sell your home in 5 years for $381,300.

That’s the math, not including our nation's current deflation problem and the fact that housing is a depreciating asset.

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