Home interest rates rising

Castles in the Sand

Easter just passed, and, hopefully, you didn’t put all your eggs in one basket.

But what if the United States puts maybe not all of its eggs into one basket, but a pretty large percentage of them. Chances are you’ll start worrying about overflowing the basket, and this is why.

About 15 percent of the U.S. gross domestic product represents the housing sector. For a few years now there has been a loss of inventory, which has been pushing prices up and up. Now potential buyers could be impacted with another threat to the housing industry – higher interest rates.

Mortgage rates have hit their highest level since 2014 and are now about 4.5 percent, which is the highest in more than four years. According to Freddie Mac, the average mortgage interest rate at the beginning of the year was 3.95 percent. This doesn’t sound like a lot, but it could push marginal buyers either out of the market or cause them to make other financial choices, all which could have an overall effect on the economy.

In addition, while the rates are still historically low, millennial buyers who are starting to flood the market may get their first dose of sticker shock. This combined with the lack of inventory has resulted in home sales activity slowing down in recent months. Some current homeowners are opting to renovate rather than move and be forced to take on a higher rate mortgage than they likely have, further reducing available inventory.

Typically, when interest rates are threatening to go up, buyers are motivated to seriously look for homes and lock in at a lower rate. This is especially true in higher priced markets where a difference of one percentage point can make the monthly mortgage payment increase by hundreds of dollars. Nevertheless, some economists believe that mortgage rates would have to reach 6 percent before buyers are forced to decide whether or not to buy a home based purely on interest rates.

The housing sectors that have been hit more than original mortgage financing are home equity loans and lines of credit. And to make that market even less attractive are the new tax laws, which will have an impact on the deductibility of home equity interest.

When the tax cut law was enacted, not all of the minor aspects of the changes were reported in detail. One of those aspects was the ability to deduct the interest on home equity loans and lines of credit. Initially, it was reported that none of this interest would be tax deductible now, however, there is a better explanation of the rules governing interest deductions for these loans.

The nuance in the law is that interest on home equity loans remains deductible as long as the loan can be classified as acquisition indebtedness. What this means to the normal human brain is that the borrowed funds need to be used for substantial improvements of a qualifying residence like a major renovation or an addition to your existing home. If you want to take out a home equity loan to pay off your credit cards, buy a car or make a college tuition payment, you will not be able to deduct the interest on the loan.

Likewise, if you want to take out a home equity loan on your primary residence to purchase a second home, this would not qualify for the interest deduction under the new tax law. Keep in mind that your regular mortgage interest remains tax-deductible up to a lower cap of $750,000 of loan principal rather than the $1 million previous cap.

The best way to figure out any interest deduction questions is to seek advice from a tax professional. Time to get rid of those Easter baskets anyway.