3 Ways High Mortgage Rates Benefit Real Estate Investments
In recent months mortgage rates have been steadily climbing. As of now (Oct 31, 2022) the average 30 year mortgage rate is hovering just above 7%. This is a stark difference from just a year ago when it was hovering around 3%. While most people would consider higher interest rates to be a problem for buyers, I would argue the opposite.
Higher mortgage rates change the dynamic of the market, shifting the power away from the sellers and back onto the buyers. This is especially true for people looking for profitable real estate investment properties. And if you find the right deal you can actually save a significant amount of money in the long term. However, in the short term your monthly payment may be temporarily inflated.
Below are three of the main reasons why real estate investors should be trying to take advantage of today’s market rather than waiting for mortgage rates to drop:
Basic economics: more supply + less demand = lower sales prices
Houses are sitting on the market longer and inventory is increasing (More supply). This provides more housing options for a buyer to choose from, and less pressure to make an immediate offer
Less buyers can qualify for a loan (Less demand). Rising mortgage rates increase the monthly expense of owning a home. The increased monthly expense directly impacts a person’s debt to income ratio, one of the main qualifications for a conventional loan. It also simply inflates the cost of any investment, hurting the bottom line. Because of this, many are simply waiting for interest rates to drop again. This creates a huge advantage for any buyers who remain, there is far less competition and it creates far more leverage to get the best deal possible.
Sales prices are dropping. The combination of the above has quickly caused a decrease in sales price. Sellers are lowering their prices to try and attract the fewer buyers who remain in the market.
Market shifts from a seller’s market to a buyer’s market
Sellers are more willing to negotiate on sales price. Not only are sellers listing their homes for less, but they are more willing to negotiate. With more homes to choose from and less buyers submitting offers, buyers have a lot more leverage than even just a year ago.
Buyers have more leverage. With more homes to choose from and less buyers submitting offers, buyers have a lot more leverage to get a better deal. Even just a few months ago many homes were selling for above asking price. That dynamic no longer exists. With the higher interest rates many homes are most homes are posting list price reductions. In addition, many are now selling below list price, creating even more value for real estate investments.
Capitalize on the lower sales prices now and refinance once rates drop. Best of both worlds.
A significant drop in sales price now outweighs the temporary increase in monthly payments. Yes, the higher interest rates will certainly impact your monthly payments. However, the interest rates won’t stay high forever. Let’s say you are looking at a $500,000 house. A year ago, that house may have sold for $525,000. For simplicities sake, let’s say the total monthly payment of that purchase would end up being $3,000 per month. In today’s market, you get that same house for $475,000. However, because of the rising interest rate your monthly payment becomes $4,000 per month. So you save $50,000 on the purchase, but incur an extra $1,000 a month. So let’s say it takes 2 years for interest rates to drop again - you go ahead and refinance at that time and recapture your expenses. After the two years you would have paid an extra $24,000 in monthly charges, but you saved $50,000 on the home because of the favorable market conditions. It will also provide you the option of doing a cash out refinance to be able to take your money back out of the home and into another real estate investment. And as an added bonus, the additional interest expense throughout the two years is a tax write off.
Our recommendations for real estate investors:
Be patient, make a lot of offers. Getting the best deal possible can take some time.
Find a quality realtor with a deep understanding of investment properties.
Understand the market to maximize profits. If you are investing in a property to use as a short term rental / Airbnb, make sure you understand if you are legally allowed to do so.
Get pre-approved with a lender. This not only helps you understand your budget, but letting a seller know you are pre-approved gives you more leverage in the negotiations.
Don’t get emotionally invested. A real estate investment should be a financial decision, not an emotional one. Try to leave your emotions at the door, sellers are much less likely to negotiate on price if they think you’ll be buying the house regardless.