Potential home buyers are continuing to see the highest mortgage rates in more than a decade. As of February 8, 2024, a 30-year fixed-rate mortgage averaged 6.64%, according to Freddie Mac¹, up from 6.12% a year ago. Two years ago, in February 2022, the average rate was 3.69% and two years ago in February 2021, it was less than half of what it is today (2.73%).

If rising mortgage rates have you feeling a bit overwhelmed, you’re not alone. According to recent Empower research, 67% of Gen Z and Millennials say higher home prices and mortgage rates are one of their biggest financial stressors – and 46% of older generations agree.²

But despite being concerned, almost half (45%) of Americans say financial happiness means owning a home.³ So when the time comes to make that big purchase, it’s important to understand the current mortgage rate environment, and how the process works.

Why have mortgage rates gone up over the past few years?

To tamp down inflation, the Federal Reserve has been raising the short-term interest rate that banks pay when they borrow from each other. Higher interest rates are designed to cool down the economy and put the brakes on inflation. And although the Fed doesn’t set mortgage rates, when banks pay more to borrow money, they charge you more as well. Hence those mortgage numbers.

The increase can make a big difference. For example, a 30-year mortgage for $300,000 at February 2022’s 3.69% rate would cost you around $196,495 in interest over the life of the loan. With the latest rate averaging 6.64%, you’d pay around $392,607 in interest for the same loan.

Even fractions of one percent in your interest rate can add up over the years, so it pays to shop around for a mortgage—and to be aware of how lenders determine mortgage rates.

Read more: What is a conventional loan?

How do lenders determine mortgage rates?

Different home buyers qualify for different rates. Here’s an overview of the factors that affect your rate:

Your credit score
Home buyers with good credit scores generally qualify for better mortgage rates because they are considered less risky. The three credit bureaus use different algorithms to calculate your score, but they are similar. The most important factor is paying all your bills on time. A score of 700 or higher is optimal.

Your income and debt
Your income is a limiting factor in the size of your loan, but lenders also consider what’s called your debt-to-income ratio (DTI) when determining your rate. The ratio refers to your total monthly debt as a percentage of your family’s gross monthly income. Lenders typically prefer a DTI of no more than 36%, including the loan you are applying for (along with expenses like property tax and insurance). A higher DTI suggests you could be a riskier loan recipient, so you’ll pay more to borrow.

The size of your down payment
A down payment of at least 20% usually merits a better mortgage rate, since the bank knows you’ve got “skin in the game” and will be less likely to risk losing your home in foreclosure. Moreover, down payments of less than 20% often require you to buy private mortgage insurance (PMI), typically around 1% of the mortgage annually.

The loan type and term
Besides conventional mortgages, you might qualify for a loan underwritten by federal government agencies such as the FHA, USDA, or VA. Sometimes they have better terms, depending on your situation. Some lenders also handle those loans and can help you figure it out.

Rates also differ between fixed and adjustable-rate mortgages (ARMs) but be careful: rates on an ARM usually start lower than a fixed loan, then change after a few years—often by a lot.

Finally, the term of your loan will also affect your rate. The average rate of a 15-year fixed mortgage was 5.9% as of February 8, 2024—more than half a point less than a 30-year mortgage.⁴ However, the monthly payments will be much larger given the shorter payoff period.

Reviewing your loan estimate

Whatever type of loan you apply for, you’ll receive a written loan estimate from the lender that will detail your mortgage rate plus the fees, closing costs and so-called discount points, which are upfront interest charges tacked on at the beginning of your loan that reduce your monthly payment.

If you’re planning to stay in your house a long time, paying more in points—and less every month—can be a good deal. On the other hand, if you think you’ll be selling the house within a few years, it might be wiser to settle for fewer, or no points and a higher monthly payment.

When you review the loan estimate, focus on the annual percentage rate, or APR, which is the actual interest rate after factoring in all fees, points and closing costs. The APR allows you to compare loans that may have the same nominal interest rate but different upfront costs. Note that the APR on an adjustable-rate loan will generally not reflect the future interest rate, which is determined by market conditions.

Read more: What are mortgage closing costs?

Mortgage rates going forward

Wondering whether you should buy now or wait? No one can say for sure where rates or home prices are headed. But if inflation continues to decline, leading the Fed to eventually cut rates, mortgage rates are likely to moderate as well.

If higher mortgage rates are getting you down, take heart: We’re not even close to record-breaking rates like the 18.63% seen back in 1981⁵. Moreover, today’s mortgage rates are still below the average over the last 50 years or so.⁶

It’s difficult to predict the direction of future rates as well as their impact on home prices.  When considering the right time to buy, it often makes sense to decide based on whether you plan to settle down in the home for many years.  After all, a home is a place to live more than purely an investment, so it’s important that a home is affordable and comfortable above all else.