Of the many variables that go into buying a home, the interest rate might be the most important. As a physician, you likely qualify for a competitive rate, despite not having as long of an employment or credit history as the general public. This puts you at a great advantage when it comes to building long-term wealth.
All mortgages are not the same
A mortgage is made up of several different pieces to create one solid financial package. Many home buyers do not realize just how much of the loan-procurement process is negotiable. Many people also do not realize that shopping around for a mortgage loan is just as important as shopping for the home itself.
A home is most likely the most expensive thing you will ever purchase (with your medical degree a close second), and so securing the best terms that you can for your mortgage will set you up for greater financial stability in the long run.
Here is a brief breakdown of the major variables that go into a home loan. It’s important to have a solid idea of what each of the variables means and how they can affect your bottom line.
The principle of a loan is the amount actually borrowed divided by the number of months needed to repay the loan. Because home loans typically have other fees included, the actual dollar amount you will pay every month will likely look very different than the number you will get if you simply divide the base loan amount by the number of months of the loan.
At its simplest, interest on a loan is the fee that you pay the bank for the privilege of borrowing the money. Banks and credit unions loan money in the first place because they earn money in interest by doing so.
Because mortgages are typically much more expensive than anyone can afford to buy outright, most people need to borrow the amount to buy the house. Even a small percentage of interest on a six-figure dollar amount is a lot of money, so the interest in spread out over monthly payments through the life of the loan.
Any bank loaning large amounts of money will want some assurance that borrowers can financially handle the debt burden of the loan. For conventional financing, borrowers need to have 20% of the purchase price of the home available as a good faith payment to the lender. This is not a hard and fast rule, however. Some types of loans allow for a smaller down payment in addition to a higher interest rate or prime mortgage insurance.
Prime Mortgage Insurance
Commonly known as PMI, prime mortgage insurance is an added fee that lenders may include if a borrower can’t or chooses not to pay 20% of the purchase price as a down payment. Typically, PMI equals an additional monthly fee until the borrower has paid enough of the principle to equal 20% of the purchase price. At that point, the borrower has at least 20% of equity in the home, and is considered less of a risk by the lender.
According to Doug Crouse, who specializes in physician home loans, while PMI may be a lot cheaper than it was years ago, it is still “basically an insurance policy for the bank to protect them.” He recommends avoiding PMI if you can, because it benefits the bank, not the lender. PMI essentially “protects them while they do nothing, and if there is a default, it’s the borrower who will take the loss.”
There are a number of fees necessary to process the closing of a home loan. These fees can vary based on lender, and some of the fees may be negotiable. When considering a lender, be sure to ask for a list of closing costs. Make sure you understand each one, and ask questions about anything you think might be unnecessary. The fees tend to cover things such as an appraisal so the bank has professional confirmation of the value of the home, application fees, and various inspections, such as for termites or lead paint.
The price of the home is definitely negotiable. It helps to know the market and make an offer in line with comparable properties in the same area. Working with an experienced realtor can help you locate the most house for your money in your preferred area, or even suggest some locations you might not have considered. They will also make recommendations on price so you can be sure to walk away with the best deal, or know when to simply walk away.
Just like any other service provider, realtors are professionals who deserve to get paid. They earn their living on commission. While they may make more money if you buy a more expensive home, any realtor who has been in the business for a long time knows that relationships matter. If they help you find the right house for your budget, you will call them again when you’re ready to buy your next home. You might even recommend them to your friends.
Fixed interest versus adjustable rate interest
To secure the best interest rate really means to secure the best interest rate that suits your needs. As you may have guessed, buying a home is not as simple as picking the home you want and then paying for it. Because so much money is at play, and because home ownership is such a key part of our culture and our economy, there are many moving pieces to buying a home. When shopping for the best loan for you, be sure to consider the timing associated with the loan.
Conventional loans are also known as fixed interest loans. For this type of loan product, you will borrow a set amount of money, and then they pay interest on top of it. The rate of interest is, as the name of the loan would imply, fixed. This means that if your interest rate at signing is 4%, your interest rate will be 4% through the life of the loan. This type of loan is particularly beneficial for people who know they will be in their home for a significant length of time, such as five years or more.
Adjustable rate interest
An adjustable rate mortgage, known as an ARM, does what it sounds like: your rate of interest may adjust year over year. The adjustment will only happen once a year, so you will have stable monthly payments for a year at a time. There is also a cap on how much the interest can adjust year over year, so you won’t be blindsided.
This is a good deal if you don’t plan to own the home long term, such as if you are a resident and know you will likely move after four years or so. You will be able to take advantage of the most competitive interest rates now, and if the rate should increase later, it won’t affect you because you will no longer own the house.
While there are different schools of thought as to whether a fixed rate or adjustable rate mortgage is best, Crouse recommends that, when seeking a physician loan interest rate, you consider an adjustable rate mortgage, because “ARMs can be great now that the market is stable, especially for residents, because once they finish their residency, they sell their home and move on. They benefit from lower monthly payments while they are in the home, and don’t have to worry about refinancing your mortgage because they know they will sell the home and move in four to seven years.”
What factors affect physician home interest rates?
Every person shopping for a home in a given market on a given day will not necessarily receive the same interest rate on their loan. While mortgage interest rates tend to be relatively consistent throughout the country without too much of a point spread, one borrower might qualify for a loan at 3.5% versus another borrower qualifying at 4%. That may sound like small change, but over the life of a loan for a six-figure dollar amount, even half a percentage point could equal thousands of dollars in extra interest paid.
Some of the variables that affect interest rates are:
- Your FICO score. This score is compiled based on what you owe and how you repay your debts. Most scores range from 300-850. While any score above 800 is considered exceptional, the average score among American borrowers is 700.
- The economy. When the economy is in a downturn, people tend to look for stable investment opportunities such as real estate, so mortgages tend to be more competitive.
- The Federal Reserve. Serving as the central bank of the United States, the Federal Reserve works to promote a healthy economy for the country.
- The lender. Be sure to shop around for the right lender for you. Look for someone who specializes in physician mortgage loans, like Doug. Ask about their track record for working with physicians in particular. You might be able to qualify for a physician mortgage loan, which could net a lower interest rate, and a cheaper overall mortgage.
How to get the best physician loan interest rate
First, be a physician
That may sound cheeky, but there is a reason why physicians are able to qualify for more competitive loans with less of a work history or a lower credit score than the general public.
That reason is: physicians are historically a good bet. Because of the availability of well-paying, stable career-oriented jobs, physicians are likely to remain not just employed, but also well employed throughout their career.
Even though a resident makes, on average, $59,000 a year, statistically speaking, physicians are highly likely to move on from residency into a better paying medical career, earning an average of $299,000 per year. According to Doug, physicians have a mortgage loan default rate of just 1%, compared to up to the up to ten percent default rate of the general public over the last ten years.
Provide proof of your degree
A transcript from your medical school will suffice for this. Unofficial transcripts are usually fine. If a lender wants to see an official transcript, he or she will ask for it once you have decided to move forward with them.
Signed contract or offer letter
If you are in your last year of medical school or residency, having a signed copy of your offer letter or contract for the job you will be starting next will generally be all you need to get started with the qualification process.
Know your FICO score
A FICO score of 700 or better is ideal to get the most competitive terms, though there are lenders who specialize in physician mortgage loans and can help you obtain the most competitive physician loan interest rates. You may qualify for terms as if you have a score of 700 or better once you prove your status as a doctor. This is where being a physician really helps you in the mortgage process, and where shopping around for the right lender for your situation really matters.
Shop around for a lender
Once you own your own home, you will learn quickly that when selecting a vendor, getting quotes from more than one, but fewer than three service providers is the best way to ensure you make an informed decision as to who offers the best fit for you. This holds true for lenders as well.
There is no limit as to how many lenders you may wish to call and interview to see if they are the professional with whom you wish to work, but keep in mind that too many quotes from too many people can quickly become overwhelming. Each time you reach out to a lender to prequalify, also, slightly reduces your credit report and can actually contribute to a lower credit score.
What is the prime interest rate?
The Federal Reserve determines a prime interest rate, which is a base interest rate for the entire country. Lenders use this as their base rate, and then add on various fees based on their business and the level of risk they must take in loaning money to each borrower.
How does it affect credit card interest rates?
You may notice that the prime rate is a very different number from the interest rate on your credit cards, and you would be right. Credit card companies are private businesses or financial institutions that can set their interest rates however they wish.
However, you may notice the letters APR on your statement. These stand for “adjustable percentage rate.” If your credit card has APR rate, that rate may change slightly up or down when the Federal Reserve changes the prime interest rate. The changes are generally small.
How does it affect auto loans?
A change in the prime interest rate is generally felt a bit more on smaller loans, such as car loans or credit cards, than with mortgages. Even a small uptick in interest rates can impact the monthly payment when buying a car.
How does it affect student loans?
If you have federal student loans, your loan interest rates are likely fixed, and your payments won’t change month after month. If you have private loans, you may have a variable interest rate, which can change up or down depending on the prime interest rate.
How does it affect mortgage rates?
The influence of the prime interest rate on mortgages is somewhat indirect. Like with student loans, if you have a fixed interest rate, you likely won’t feel the effects of a change in the prime interest rate at all, at least not through your mortgage. If you have an adjustable rate mortgage, you could see a change in your monthly payment.
Of course, that only holds true for a house you already own. If you are shopping for a home, the prime interest rate will affect you more directly because the base interest rate will be in line with the national prime interest rate. In the 2000s, that rate hovered around 8-9%. It decreased incrementally over the next fifteen years and is now holding steady around 4-5%.
As you can see, there are many factors that go into financing the purchase of a home. These variables extend well beyond the purchase price of the home. As will all things, knowledge is power, and it helps to go into the process of buying a home armed with an understanding of how loan products work.
Due to lack of risk, physicians are considered excellent candidates for receiving home loans. Despite a lack of credit history or employment history, due to the stable and well-paying nature of the medical field, physicians can generally qualify for must better terms than a member of the general public with a similar financial background. This is great news for you!
As with most things in life, shopping around for the best deal for you is key. Be sure to consult multiple lenders, ask about physician loan interest rates and how they calculate their fees, and be sure you have a good understanding of the types of interest rates and loan products for which you may qualify. Then, happy house hunting!