Mortgage rates are rising. Here’s how to adjust your housing budget

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Homebuyers are feeling the squeeze of rising mortgage rates. On top of that, housing prices remain high. That may lead many to rethink their budget.

“As mortgage rates go up, it raises the cost of buying a home with a mortgage,” explained Danielle Hale, chief economist at Realtor.com.

“For many homebuyers, higher mortgage rates equal a higher monthly cost, especially for those taking out a large mortgage.”

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The rate for a 30-year fixed mortgage is now 5.65%, according to Mortgage News Daily, up from 3.29% at the start of the year. The median listing price hit a record $450,000 in June, according to Realtor.com.

At the current rate, the cost of a 30-year fixed mortgage on a $450,000 home means $2,078 in monthly payments, if you put down 20%, according to Realtor.com’s calculator. That doesn’t include property tax, home insurance, homeowner association fees or mortgage insurance, since the down payment was 20%. If you put down less, you are typically subject to private mortgage insurance, or PMI.

At a 3.29% rate, the cost for such an arrangement is $1,575 a month.

The good news is that supply constraints are easing as more homes are coming on to the market.

“We are seeing a shift from where we were six months ago,” said Glenn Brunker, president of Ally Home.

“I wouldn’t say we are in a buyer’s market, but definitely the market where the seller controls the experience, the transaction [and] the price, we are seeing some softening in that.”

Here’s what to look at when adjusting your housing budget.

Consider your overall budget

Take into account all of your monthly expenses when looking at your housing budget.

The general rule of thumb for how much you should spend on housing costs is 30% of your income. Those costs include not only the mortgage payment, but also any property taxes, homeowners insurance and maintenance.

However, how much you actually devote to housing costs depends on your situation. If you don’t have children, perhaps you can spend more than 30% of your income — or if you have children or student debt, it may mean less than that percentage, Hale said.

“The No. 1 thing for buyers to make sure [of] is that the monthly payment is comfortable and fits their budget,” she said.

Look into available interest rates

In addition to having a dependable real estate agent, research mortgage lenders and find one you can trust. Compare available interest rates and be aware of any fees the lenders charge.

The interest rate you get depends in part on your credit score. Generally, to land more favorable advertised rates, your credit score should be over 740, Brunker said.

Work with your lender on different scenarios, so that you can get an idea of how your monthly payment would change with future rate increases. You can also test out different payments on a variety of mortgage calculators, from either lenders or sites like Bankrate or NerdWallet.

Consider your mortgage terms

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There are different mortgage products on the market and different ways to approach calculating your monthly bill.

One way to lower your monthly payments is to make a larger down payment so that you aren’t borrowing as much on the cost of the property. That may work for someone who is selling a home and has a large amount of equity available, but this choice is likely a difficult one for first-time buyers, Hale said.

Similarly, shelling out money ahead of time by buying what are termed “mortgage points” can lower your interest rate. Each point costs 1% of the mortgage amount and typically lowers the rate by 0.25%, according to Bankrate. This approach may or may not work for your financial situation.

“It may be a very high cost to bring the mortgage rate down just a little bit, or sometimes you get a big reduction without paying many points,” Hale said. “Most lenders will give you the best execution rate.”

On the flipside, you can lower the final cost of the home if you get a 15-year fixed mortgage instead of a 30-year fixed loan, Brunker said. Right now, a 15-year fixed loan has a 4.95% interest rate, according to Mortgage Daily News.

“You’ll pay off the loan faster, saving 15 years of interest,” Brunker noted.

However, the monthly payments will be higher.

A riskier way to lower your payments is taking out an adjustable-rate mortgage. The loans offer lower initial rates than fixed-rate loans. After a certain period — which is generally three, five, seven or 10 years — the rate of the ARM adjusts to reflect current market conditions.

The risk is that once the fixed rate ends, you could wind up with a higher interest rate and, therefore, higher monthly payments. Make sure you’ll be able to afford those payments when the time comes, even if you think mortgage rates will eventually go down and give you the opportunity to refinance.

“I would not bet on that happening and risking long-term homeownership,” Brunker said.

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