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To me, it’s truly amazing how low interest rates are these days.
Furthermore, it seems that with each passing month, I log in to my savings accounts with ING Direct and Dollar Savings Direct only to find out that the interest rate I’m earning on my balance has only decreased closer and closer to zero (currently around 0.80-1.00% APY)!
The Current State of Interest Rates
According to MoneyCafe.com, the current prime interest rate decided by the FOMC in their August 9th, 2011 meeting is 3.25%. In looking at historical interest rate levels, I found that one has to go all of the way back to around 1955 to find interest rates that were as low as today’s levels. So, while today’s interest rates aren’t the lowest they’ve EVER been, they are incredible low for modern standards!
As a personal finance blogger and investor, I encounter many people who are very annoyed with how the low interest rates we’re currently experiencing are enabling them to accumulate little to no money in interest payments on their cash and emergency fund accounts. I’m not going to try to sugar-coat things by claiming this assessment is inaccurate of our current reality. However, I would propose that instead of focusing on the negative aspects of the current situation, we focus on the positive effects that low interest rates bring. However, this begs the question: what are these benefits, if any?!
The Effect of Current Interest Levels on Mortgage Rates
In my opinion, the most effective way that regular consumers/individuals can actually benefit (instead of receiving negative effects) from historically low interest rates is by taking advantage of this time to lock in low-cost fixed mortgages for purchasing primary homes or other forms of real estate.
In most of the personal finance books I’ve read, a family or individual purchasing their own home is typically quoted by these people as the “best financial decision they ever made.” Of course, there are many reasons why purchasing a home is a good financial decision. However, one of the key reasons for this is the tax advantages people receive in deducting mortgage interest from their income taxes and being able to do tax-sheltered exchanges when buying and selling their home.
How You Can Take Advantage of the Low Interest Rate Situation – Buying and Refinancing A Home
Currently, 30 year fixed rate home mortgages are being offered for around a 4.2% interest rate, approximately 1% above the prime interest rate of 3.25% mentioned above. In my opinion, an interest rate of only 4.2% is really not much at all (i.e. very cheap!), especially when you consider 1) that equities have returned an average of ~10% per year over the history of the stock market and 2) savings accounts were earning around 5% APY interest in 2005. As such, if you’ve been delaying purchasing a home for several years, now is a great time to “pull the trigger” and purchase while interest rates are low.
Another aspect of the “financial puzzle” to consider is the possibility of refinancing your home. At a high level, refinancing makes sense when you bought your house (and subsequently took out a mortgage loan) during a historically high interest rate period. For example, if I bought a house in the year 2000 when interest rates were around 10-11%, and I still had a significant amount of the loan outstanding, it would potentially save me thousands of Dollars to refinance my home now to take advantage of interest rates that are almost 50% reduced.
As a quick example of the magnitude of savings that are possible with refinancing, let’s assume that I still had $150,000 left to pay off on my mortgage that I took out for my $1.5 million McMansion I bought in 2000. If I refinanced from the 11% interest loan to a new 4.2% interest loan, it would mean that I would pay approximately $10,000 less in interest per year. If you ask me, that’s definitely worth the time to go through the refinancing process. Of course, prior to going through the refinancing process, you’ll want to check if in your situation, the fees that you’ll pay to make the transition won’t degrade the benefits you’ll receive in interest savings.
How about you all? How have the low interest rates in recent years affected you? Have you done anything to take advantage of the situation? Have you ever gone through the mortgage refinancing process? Are there any hidden fees that were encountered?
Share your experiences by commenting below!
***Photo courtesy of http://www.flickr.com/photos/jawspeak/213150426/sizes/m/in/photostream/