Interest Rate Lock: What Happens When You Do, What Happens When You Don’t
I understand the interest rate market can appear to be a little jumbled sometimes. You can check out interest rates one day and then a week later they’ll be a little different, sometimes higher and sometimes lower. They can also remain the same but in most instances rates do change daily, even by a very tiny amount.
Interest Rate Basics
For example, you might get a rate quote with half a discount point and then a couple of days later the same rate might be three-quarters of a point. There really is a method that lenders follow when setting interest rates each day. Mortgage companies everywhere follow the same basic set of indices when setting their rates each day. For a 30 year fixed rate, a common index is the FNMA 30-yr 3.0 mortgage bond. Government-backed loan such as VA and FHA also have their own indices. A 15 year will also have an index that is tracked. With adjustable-rate mortgages or hybrid loans, there are other indices used such as the 10 year note, for example.
But until you officially request an interest rate lock, you’re subject to market conditions and prevailing rates. And that can be both a good thing and a bad thing, depending upon what markets are doing. Let’s say that our economy is humming right along and the prospects for a stronger economy look good. That means investors might put more of their funds into the stock market and pull funds from bonds they’ve purchased. Investors buy bonds for safety, not solid returns. The advantage for bonds is security. When markets begin to suffer or show signs of weakness investors can be a little anxious and sell their stock holdings and transfer them into the security of a bond. And remember, the FNMA 30-yr 3.0 is also a bond. Like all bonds, when there is a greater demand the price goes up and when the price of a bond goes up the yield goes down. Conversely, when investors have little demand for bonds the price goes down and the yield, or the returns, go up. In a nutshell, that’s how rates can change on a daily basis and sometimes even during the course of a single business day. Unless you lock in your rate however, you’re subject to these daily swings.
When you submit your loan application you’ll be provided a series of documents, one of which explains how and when your interest rate is guaranteed with an interest rate lock. Don’t expect to lock in any rate without having submitted your loan application along with supporting documentation and have a property picked out. If you’re refinancing the property is the one you own and if buying it’s the one listed on the sales contract.
How it Works
Rate locks are issued for a specific time period, typically just as long as needed to close your transaction. When you apply, we’ll begin documenting your loan and request information from your landlord, order an appraisal and a title report among others. Typically this additional documentation takes about 10 days or so to collect. Once fully documented, it goes to the underwriter who reviews your loan file to make sure it conforms with program guidelines. Once the loan is fully approved and you’ve satisfied all your loan conditions, it gets sent to your settlement agent who will oversee your closing. The settlement agent will then send your signed loan package back to us for a final review to make sure the agent followed our instructions properly. After that, funds for your mortgage are released and your loan is recorded at the county recorder’s office. During all this time, your rate is locked in. In today’s market, closing a mortgage to buy a home or refinance an existing mortgage should take less than 30 days, so a 30 day lock is needed.
Interest Rate Lock: Pros and Cons
What if you need a bit longer to close? What if the sellers can’t close in 30 days but need a couple of more weeks? Then a 45 day lock is the answer. Or a 60 or even a 90 day lock. The strategy isn’t to lock in for the longest term possible because the longer the lock the more expensive the rate will be. A 90 day lock will cost more than a 30 day lock. Rate lock periods can also be as short as 10 or 15 days. When you submit your loan, we can talk about the rate lock period that best suits your situation to get a better rate at the lowest cost.
Okay, but what happens if you don’t lock your rate? Not much, really. Some consumers will apply for a mortgage and even submit their supporting documentation but decide not to lock in a rate. Maybe those consumers think that over time rates will move lower so they wait. And that can certainly work out if rates do move lower and they lock in a 15 day rate. But if they wait too long then certain documents in the loan file have to be updated once again. That means the lender needs to re-order or otherwise refresh credit documents in the file which can delay the closing.
During that same period however, rates move up rather than move down. Without an interest rate lock, you’re not protected against rate swings. In fact, if someone’s debt to income ratios are a bit high to begin with when first preapproved, if rates move too much higher they can rise to the point where they no longer qualify and the deal they want falls through.
My advice when deciding about a rate lock? Think about whatever decision you make is the wrong one. If you do decide to lock and rates move lower, you can always refinance down the road. If you decide to wait and rates move higher, you’ll be paying for that decision each and every month when you make your mortgage payment. Now, which way would you rather be wrong?