Mortgage interest rates have breached 8%. This is unchartered territory for many years. Historically, eight percent isn’t horrible but for the current entire generation, it’s shocking… especially for folks with an adjustable-rate mortgage (aka variable in Canada) or first-time home buyers.
The average 5/1 adjustable rate mortgage in 2021 was 2.61%, resulting in a monthly payment of $1,361. If mortgage rates hit 10%, monthly payments will be double what they were in 2021. That’s a mere two years ago.
Because most people pay off a mortgage over decades (20 to 30 years), the amount of interest you end up paying can be astronomical when interest rates increase.
These days rates for a twenty to thirty-year mortgage are 8.5%. Not long ago, it was under 3%. Logic dictates that as interest rates go up, house prices drop. Sadly, that’s not happening everywhere in the US or Canada. If you thought house affordability was tough two years ago, now it’s much much worse in those areas where house prices remain unchanged or have continued to climb.
While a four or five-percent increase in interest might not seem much, it is. It’s a lot in the short term (monthly payments) and long term (amount you end up paying to pay off the mortgage).
How much of a difference?
Here’s a table I put together showing how much monthly payments are at various interest rates.
Monthly Mortgage Payment Amounts at Different Interest Rates
|Interest Rate||Monthly Payment||Total Paid Over 25 Years|
|*Based on a $300,000 mortgage ammortized over 25 years|
Please note that the amounts do not include other factors such as life insurance, fees, etc.
Monthly payment doubles when the interest rate goes from 2% to 10%
This is both scary and illuminating. When the interest rate increases from 2.61% to 9%, the monthly payment doubles for a 25-year mortgage. And that’s precisely what’s happened over the last few years. Not long ago, you could get 2.61% mortgages. Now you’ll be hard-pressed to get a mortgage under 8%.
While we’re not quite in 10% territory, it’s not inconceivable that mortgages will climb to that in the near future. We’re only 1.5% away. It’s getting ugly.
At seven percent and higher, you end up paying more than you borrowed
Here’s another stark fact illustrated by the second chart above, and that is for mortgages at 7% or higher, you end up paying more than double the amount you borrow when amortized over 25 years. It’s worse at 30 years (although monthly payments are less at 30 years compared to 25 years).
Will mortgage rates hit 10% and therefore end up costing homeowners 2x each month?
I don’t know. I’m not an economist, and the fact is economists don’t know. Let’s just say that it’s definitely within the realm of possibility, given current rates are around 8.5%.
I should point out that those with a fixed mortgage are all set; their monthly payments won’t change. It’s those with an adjustable mortgage who are vulnerable to skyrocketing mortgage payments. While most people have fixed mortgages in the USA, you might be interested to know that the longest-term mortgage one can get in Canada is ten years. Since most are amortized over 20-plus years, that means most mortgages will renew at least once and are hence vulnerable to increasing mortgage rates.