The prime rate is the interest rate commercial banks charge their most creditworthy corporate customers. But what is prime rate in real estate? Keep reading to learn how the prime rate affects the home mortgage rate.
Understanding Interest Rates and the Prime Rate
Part of your job as a real estate agent will be to educate your clients about the home mortgage industry. Before we get into the details of the prime rate, let’s discuss interest rates in general.
Interest rates are a percentage of the amount lenders charge on loans they grant to borrowers. The interest acts as payment to the lenders. It’s how banks and mortgage companies make money.
At an individual level, these rates are based on the borrower’s credit score, financial history, and current financial status. But at a higher level, the APR, which includes the interest rate and the other costs associated with borrowing money, is somewhat connected to the prime rate.
How Does the Prime Rate Work?
As we mentioned earlier, the prime rate (or the prime lending rate) is the interest rate banks charge large corporations – their most creditworthy customers.
Here’s how prime rates are determined:
The prime rate in the U.S. is primarily determined by the federal funds rate, which is the rate at which commercial banks borrow and lend their excess reserves to each other overnight. Banks commonly use a combination of the federal funds rate plus three percent to determine the prime rate.
This number is important to consumers like you and me because the prime rate forms the basis for some other interest rates, such as variable rate mortgages, home equity loans, and home equity lines of credit.
Prime Rate and Real Estate FAQs
It’s a good idea to know a bit about prime rates if you work in the real estate industry. After all, the prime rates are the basis of some consumer lending. Below are a few commonly asked questions regarding prime rate.
What is prime rate in real estate?
Even though the prime rate can affect the real estate market, the prime rate is the interest rate that banks charge corporations. Prime rate is not the term used to describe the best home mortgage rates.
How does the prime rate affect mortgage rates?
The prime rate influences the interest rates offered on adjustable-rate mortgages or ARMs. ARMs are loans with interest rates that can change periodically based on changes in the prime rate. For example, if the prime rate falls, the interest rates on ARMs fall.
Fixed-rate mortgages are not directly tied to the prime rate. However, fixed-rate mortgages can be influenced by broader economic conditions – such as the prime rate. If the prime rate rises due to economic fasters, it could contribute to an overall increase in fixed interest rates.
What do you need to know about prime rates as a real estate agent?
As a real estate agent, it’s vital that you keep an eye on economic conditions and interest rates, as these will affect market conditions. However, you don’t have to subscribe to the Wall Street Journal and spend hours studying historic prime rates to do your job well.
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Source:
Chen, James. “Prime Rate Definition.” Investopedia. Accessed November 28, 2023. https://www.investopedia.com/terms/p/primerate.asp.
