Understanding Mortgage Interest Rates

A mortgage interest rate is the percentage a lender charges you to borrow money for a home purchase. It determines how much you pay in addition to repaying the loan principal. Interest rates can vary significantly between lenders and borrowers, making it important to understand the factors that influence them.

How Interest Rates Are Determined

Mortgage interest rates are influenced by a combination of broader economic conditions and individual borrower characteristics. The Federal Reserve's monetary policy decisions affect overall interest rate trends, but the rate you receive depends on your specific financial profile.

Factors That Affect Your Rate

Credit Score

Your credit score is one of the strongest indicators lenders use to assess risk. Generally, higher credit scores are associated with lower interest rates because they signal a history of responsible borrowing.

Loan Type

Different loan programs (Conventional, FHA, VA, USDA) carry different rate structures. Government-backed loans may offer competitive rates due to the reduced risk to lenders from government guarantees.

Down Payment

A larger down payment typically results in a lower interest rate. Putting more money down reduces the lender's risk because you have more equity in the home from the start.

Market Conditions

Broader economic factors—including inflation, employment data, and the Federal Reserve's actions on the federal funds rate—influence the overall direction of mortgage rates across the market.

Interest Rate vs. APR

The interest rate reflects only the cost of borrowing the principal. The Annual Percentage Rate (APR), on the other hand, includes the interest rate plus other costs such as origination fees, discount points, and certain closing costs. The APR gives a more comprehensive picture of the total cost of the loan. The CFPB recommends comparing APRs when shopping for a mortgage to understand the true cost of each offer.

Fixed Rate vs. Adjustable Rate Structures

Fixed-Rate Loans

Rate is locked for the entire loan term (e.g., 15 or 30 years)
Monthly payments remain consistent, making budgeting easier
No risk of payment increases from market rate changes

Adjustable-Rate Loans (ARMs)

Start with a lower introductory rate for a fixed initial period
Rate adjusts after the initial period based on a benchmark index plus a margin
Rate adjustment caps limit how much the rate can change per period and over the life of the loan
Can be advantageous for borrowers who plan to sell or refinance before the adjustable period begins

Tips for Getting a Better Rate

Improve your credit score before applying by paying down debt and correcting any errors on your credit report
Save for a larger down payment to reduce the loan-to-value ratio
Shop around and compare offers from multiple lenders—the CFPB recommends getting at least three quotes
Consider paying discount points to buy down your rate if you plan to stay in the home long-term
Lock your rate when you find a favorable offer, as rates can change daily

The Federal Reserve does not set mortgage rates directly, but its policy decisions on the federal funds rate influence the broader interest rate environment. Mortgage rates are also affected by the bond market, particularly the yield on 10-year Treasury notes.