Dubai: Although you would ideally buy a home when both interest rates and home prices are low, what if that's not possible at any given time. Do you postpone your plans and continue staying in a rented house or do you go ahead and buy a new house anyway?
Interest rates have been rising worldwide and this makes it unfavourable for a potential homeowner to borrow money when buying a home at the cheapest possible rate as interest rates on home loans increase as well. But do rising rates impact rents as well?
By raising interest rates, those who would otherwise be in the home buying market, are encouraged to stay in their current home or rent instead. This decrease in demand should then help to lower, or at least level out, home prices, but it makes owning a home more expensive. Here’s how it works.
If you aren’t in a rush to buy a home, you can always take a ‘wait and see’ approach, but keep in mind that while prices or rates could drop, they could also stay the same or even go up
What if both interest rates and home prices aren’t low?
While it’s possible for prices and rates to go down simultaneously, as home prices are also dependent on where you plan to live and what the housing market looks like in that area, it’s hard to determine whether you’ll encounter low prices and low rates at the same time.
Predicting which way the real estate market will move is tough even for the experts. While it might be tempting to wait for home prices to go down or for central banks worldwide to cut interest rates, there’s no guarantee that your efforts will pay off.
“If you aren’t in a rush to buy a home, you can always take a ‘wait and see’ approach, but keep in mind that while prices or rates could drop, they could also stay the same or even go up,” said Prakash Bhat, a real estate and mortgage consultant currently working out of Abu Dhabi.
“As it isn’t always possible to buy when both interest rates and home prices are low, what you need to do is calculate both the short- and long-term costs of a lower interest rate versus a lower purchase price. When the numbers make the most sense, make your move.”
How do house prices and interest rates impact home buyers?
House prices and interest rates directly impact down payment amounts and monthly payment amounts. Let’s take a closer look at how these factors affect home buyers.
• Down payment
Most home buyers who use a mortgage loan to finance their purchase will need to put down a certain percentage of the sale price. (The standard down payment is 20 per cent of the cost of your home.)
When considering how much home you can afford, it’s important to think about how much cash you have available to put down. If you put 20 per cent down on a home that costs Dh200,000, you’ll need Dh40,000 to close on the home. If that house costs Dh250,000, you’ll need Dh50,000.
• Monthly payment
Both the price of the home and the rate on your mortgage will affect the size of your monthly loan payments. Excluding insurance, your monthly mortgage payment is made up of two elements: the ‘principal’ amount and the interest.
While ‘principal’ is the initial amount you borrowed, interest is the amount you’re charged for borrowing that money. It may seem obvious how the price of a home affects the amount you pay each month, but you may not realise how much your mortgage interest rate can impact this as well.
That’s a Dh57 difference each month. Over 30 years, you’ll have paid your lender an additional Dh143,739 in interest on the 4 per cent loan, and only Dh123,312 on the 3.5 per cent loan.
Is it cheaper to rent when interest rates are high?
“It's easy to think that because you're not taking out a mortgage, interest rates don't affect how much you'll pay in rent. But on the contrary, interest rates and high demand have contributed to a rise in rents worldwide,” added Bhat. But is it still cheaper to rent when interest rates are high?
“Despite the recent increase in interest rates and housing prices, buying a home is still a cheaper alternative to renting as interest rates still remain at near long-term lows and houses are still relatively cheap. Therefore, the recent jump in rates doesn’t change the rent-versus-buy ratio.”
According to property price tracking portals, buying a home is on average 30 per cent to 40 per cent cheaper than renting when respective mortgage interest rates are settled between 4 per cent to 5 per cent worldwide.
Interest rates impacts mortgage payments, rents
“When deciding whether it’s cheaper for you to buy or rent, it’s important to take potential rent increases and interest rates into account,” said Stephanie Myrtle, vice president of a Dubai-based real estate research firm.
“Interest rates have a large impact on mortgage payments, but they also impact the rental market. And interest rates fluctuate over time, so if you buy a home, you may have the option to refinance your home purchase at a lower interest rate down the road which would lower monthly payment.”
Even if interest rates drop, it isn’t likely that your rent will go down, though it may not go up as quickly. When you buy a home, you should take into account the interest you’ll pay over the life of the loan as well as any maintenance, improvement costs, and the potential resale value.
Bottom line: Is it cheaper to rent or buy when interest rates rise?
“Although the decision to buy or rent is dependent on individual circumstances, choosing to rent rather than purchase a home can mean you’re not covering the cost of high interest rates. However, also keep in mind that rents also tend to go up when interest rates are high,” cautioned Myrtle.
The best way to determine if it’s cheaper to rent or buy is to take stock of current interest rates, home prices, and rent prices and do some math to figure out how each one will affect you in the long term.
“To determine how much you’ll pay in rent, multiply the monthly rent payment by the amount of time you plan to rent and include rate increase estimates. A 2 per cent to 5 per cent increase yearly is a good place to start,” Myrtle further explained.