The 1/10 Rule in Real Estate: When 1% Change in Interest Rates Equals 10% Change in Buying Power

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July 21, 2022 | comments

Veteran Real Estate Broker Karen Schlosser Discusses How Rising Interest Rates Affect Buying Power and Selling Prices

PLUS: 5 Ways ↓ to Help Your Clients Get Their Home Even As Rates Rise

While the headlines are screaming “Higher Mortgage Rates” and “Surging Mortgage Interest Rates Slamming the Brakes on the Housing Market,” Veteran Real Estate Broker Karen Schlosser is here to tell you not so fast.

Yes, rising interest rates are affecting the purchasing power and selling price of homes. And, yes, changing interest rates will adjust a buyer’s affordability range and the agent’s number of sales; but no, it won’t likely slam the brakes on the housing market, says Schlosser, the Principal Broker, Vice President, Sales Manager at Comey & Shepherd, Cincinnati.

In her more than 40 years in real estate, the broker and former president of her local board, has seen the effect of rising and falling interest rates from both professional and personal experience, including the purchase of her first home in 1980, which carried an interest rate of 14%.

“If you said that to most people today, they would say, ‘That will slam the brakes on the housing market.’ The reality is it didn’t stop me from buying a home. It just adjusted my purchasing budget,” she says. “People will continue to buy homes. It’s just a matter of budgeting for that.”

Fortunately, there’s a simple rule that can help you and your buyers determine their level of affordability in today’s changing real estate climate.

Applying the 1/10 Rule to Determine Buyers’ Level of Affordability

The 1/10 Rule is a simple rule meant to help buyers determine a level of affordability in a changing market. The concept is simple and easy to explain:

When interest rates go up by 1%, buying power goes down 10%. The reverse also holds true. When interest rates go down by 1%, buying power goes up 10%.

“Over the last few years, we’ve seen interest rates at historically low rates, and buying power went up,” says Schlosser. “Now that we’re experiencing some increase in interest rates, the buying power is going down.”

Say, for instance, a buyer qualifies for a $250,000 mortgage, but the rate suddenly hikes up 1%. The buyer’s purchasing power drops to $225,000:

$250,000 – $25,000 (10%) = $225,000

To make the math easy, dotloop has created a handy Buying Power Calculator in the dotloop Resource Center to demonstrate how a buyer’s payment will vary by fluctuating interest rates. Agents will find this tool in the free Interactive Forms section of the Resource Center.

Either watch the free webinar with Karen Schlosser and dotloop Director of Training Hunter Morgan, or click on this Interactive Forms link and follow the steps to access this free Buying Power Calculator in the Interactive Documents section of your dotloop account.

Using this tool, agents can estimate their buyer’s potential buying power by modifying the mortgage amount and interest rate fields to estimate the monthly payments.

Agents can also load this tool to their loops (transactions) in dotloop to easily demonstrate the formula with their buyers.

5 Ways to Adjust the Buyer’s Purchasing Power with Rising Interest Rates

As noted, rising interest rates don’t automatically have to quash a buyer’s dream of buying a house. They may just need to make a few adjustments and explore their options.

Here are a few ways agents can help their buyers get the house, even when interest rates start to climb.

1. Make a larger down payment

If the buyer was contemplating a 15% down on the home and they have access to cash, raising the down payment to 20% can not only offset the higher interest rate, but it may also allow the buyer to negotiate a lower interest rate. Additionally, a higher down payment may prove the difference-maker in a field of competing offers.

2. Adjust the lending terms

According to Schlosser, buyers might look at a 15-year rate, which may offer a more attractive interest rate versus a 30-year rate. With a 15-year rate, the interest will be lower over the life of the loan than the 30-year alternative, and it can help the buyer build equity faster.

Other options, Schlosser says, include Adjustable Rate Mortgages (ARM) or an assumable FHA loan, in which the buyer takes over the seller’s mortgage loan. “FHA loans are assumable. Many people don’t know that.”

3. Take another look at credit history

Of course, buyers should always strive to improve their credit score, but especially when interest rates are moving. Payment history, balances, credit mix and new credit all factor into the credit score of a potential buyer.

4. Limit spending

To improve your buyers’ chances of qualifying for a loan as interest rates fluctuate, counsel clients to practice good financial fitness. For example, they should refrain from making large purchases around the time they’re considering buying, and they’ll want to ensure they don’t miss any payments on bills. Changing jobs can also send red flags to lenders.

5. Move quickly once the offer is accepted

Long escrow periods in a changing market can derail a loan. An appraisal, for instance, can take an unusually long time in some markets. To expedite the process, agents might ask the lender to order the appraisal the day the offer is accepted.

Karen Schlosser is the Principal Broker, Vice President, Sales Manager of Comey & Shepherd. She’s been in the real estate industry since 1977, acting as the Director of Administration and later the President of the Cincinnati Area Board of REALTORS®. In her current position, she conducts her own transactions, mentors others and hosts Tech Tool Monday, a weekly webinar series widely attended in the Cincinnati and Tri-State area.

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Disclaimer: The content within this article is for informational purposes only, and does not constitute financial, investment, or other advice. Opinions and experiences are those of the presenter and may not reflect typical outcomes.