A mortgage rate lock protects a borrower from rising interest rates while a new mortgage or refinance is being processed, which these days can take weeks to even months.
But the calculus for borrowers has changed during the pandemic. Interest rates have plummeted and many experts believe they will either stay low or go lower still in the coming months. Fannie Mae predicts that the 30-year fixed rate will plunge below 3% by 2021.
Locking in a rate now could mean 30 years of low interest rates on your home loan. However, some folks wonder if there’s a chance to save even more money by letting the rate float during the mortgage process or even waiting to take out a new mortgage or refinance your current one.
It’s important to keep in mind that rate locks aren’t free. Lenders build them into the cost of the mortgage. The longer the rate lock, the higher the cost for the borrower and the lender.
“Paying for an extended rate lock might not be money well spent given the uncertain time until closing and considering the weak economic backdrop that is likely to keep a lid on rates,” said Greg McBride, Bankrate’s chief financial analyst.
Where rates have been and where they may be headed
Mortgage rates have leveled out to around the mid 3% range in the past few weeks, according to Bankrate’s weekly survey of national lenders. The Fed’s massive buying spree of mortgage-backed securities was key in stabilizing mortgage rates, which had, up to this time, been seesawing dramatically since the COVID-19 pandemic hit.
A low, steady rate environment is good news for borrowers, because it removes the pressure of racing the rate clock. Most experts think rates are going to stay where they’re at for the time being — but some think rates will drop even lower.
Recently, United Wholesale Mortgage unveiled a 2.5% mortgage rate (for 30-year fixed-rate loans) for their independent lenders, which has rate-watchers very excited. This kind of news can give some borrowers pause when it comes time to locking in a mortgage rate, especially if they think there’s a chance to save hundreds of dollars on their monthly mortgage payments by waiting a few weeks.
“I’ve been personally telling people if they can stomach the risk tolerance, go for a shorter lock period,” said Anthony Sherman, CEO of Simplist. “Rates can change from day to day. We’ve had dozens of customers who have done that.”
The downside of getting shorter rate locks or waiting is that rates can shoot up without warning and stay aloft for weeks or months, which translates into a more expensive loan for the borrower.
“What is most likely to undermine your rate lock is the length of time it takes to get to closing. Waiting until you have better visibility on how long it will take to get to close is a necessary prerequisite to locking your rate,” said Bankrate’s McBride.
How mortgage rate locks work
Mortgage rate locks allow borrowers to lock in the current interest rate for a specific period of time. Generally, lenders offer 30- and 60-day rate locks as standard.
“If the lender does charge a fee you may be able to negotiate with them to waive any rate-lock fees,” said Randall Yates, president at The Lenders Network.
Shorter rate locks, such as seven-day locks, can reduce the borrowing costs by approximately an eighth of a point, says Sherman.
Conversely, longer rate locks, which are generally between 60 and 90 days, come with fees which are usually baked into the interest rate. These fees vary by lender.
Lenders charge for longer rate locks because their risk increases over time. If rates rise, then the lender will miss out on the difference. Quicken, for example, offers a 90-day rate-lock product called RateShield, which costs one quarter of a percentage point. This means if you qualify for a 3.25% interest rate, it will rise to 3.50% under RateShield.
The benefit of a rate lock is that borrowers are protected from rising interest rates during the lock period. The downside is that borrowers won’t get the advantage of falling rates during that period.
Floating rate locks are options for borrowers who want to lock in the current rate with the benefit of getting a lower interest rate if they fall. Lenders charge around 1% of the total loan amount for a floating rate lock. So, if your loan is $275,000, you would pay $2,750 for the floating lock.
“Be sure to weigh the advantages and disadvantages of a floating-rate provision, which can be expensive. And, depending on the borrower’s circumstances, it may not make sense to include in the rate lock,” said Leslie Tayne, founder of Tayne Law Group in Long Island, N.Y.
The floating rate lock can be a costly gamble or it can help you hedge your bets if rates do fall. Borrowers who plan to stay in the home long-term have more to gain from a floating rate lock that translates into a lower rate.
In most cases, the 30- to 60-day rate lock should be sufficient, especially if you qualify for a rate in the mid to low 3s or even 2s (if that comes to pass).
When to consider extending your rate lock
However, there are some instances where homebuyers might need to extend their lock. Louise Rocco, a real-estate agent at Exit Bayshore Realty in Tampa, rattles off a laundry list of common homebuying scenarios that might necessitate a rate-lock extension.
“The appraisal might come in too low, so you’ll have to appeal it and extend the lock,” Rocco said. “Let’s say you have a double closing, where you’re trying to sell and buy. If something doesn’t happen, the people who are buying your house can’t sell their house, for example, you will have to push off the closing date, so you’ll need to get a rate-lock extension.”
Rate locks are important because interest rates affect the cost of your loan. If the rate rises, you could end up getting priced out because the loan then becomes more expensive than what you’re qualified to borrow.
“A half a percentage point, depending on the loan amount, could mean an extra $100 per month in mortgage payments. You could end up losing the loan because your DTI won’t allow for that higher monthly payment,” Rocco said.
Be sure to communicate with your lender throughout the process. If you’re getting close to the end of your lock and the house closing is far off, talk to your lender about options for extending your lock.
Finally, get everything in writing, Tayne said. It’s important to have documentation of the terms of your rate lock so there are no surprises when it’s time to close.