3 Reasons Why Buying a House Now and Refinancing Later Is a Bad Idea

If you've been looking to buy a house, chances are you've encountered a few challenges, including low inventory and higher interest rates. Low inventory has driven up the price of homes. Those higher prices, coupled with interest rates over 7%, make it difficult for many to easily afford a house in the current market. But what about getting a mortgage loan now with the intention of refinancing it once the rates drop? Won't the price of homes just keep increasing?

Here, we examine three reasons why taking the leap into a new home right now may not be in your best financial interest.

1. Marry the house, date the interest rate

According to Realtor.com, "marry the house, date the rate" is a catchphrase that took hold as interest rates began to climb in 2022. The idea behind the phrase is simple: Focus on buying a house now, and prepare to refinance the home when rates drop.

First of all, it's mortgage lenders, real estate agents, and home sellers who benefit from this approach to home buying. Buyers could be left out in the cold.

Let's say you get into a bidding war on a home with a $300,000 price tag. You're determined to win and offer $50,000 over asking. Now you've agreed to pay $350,000 for a home that would have easily sold for $250,000 before the pandemic hit and housing inventory collapsed.

You plan to put $70,000 down (20%), meaning all you need to finance is $280,000 ($350,000 - $70,000 = $280,000). You're excited when the home appraiser comes back with a home value of $300,000. That means the bank will lend you the $280,000 you need to finance the purchase.

As good as this sounds, there are at least two risks associated with paying top dollar (or more) for a home.

• You're married to the price you agreed to pay. While it's true that you only "date" an interest rate and can refinance at any time, the same is not true of how much you pay for a home. When interest rates drop, you can expect housing inventory to surge, cooling prices in most parts of the country. Since you're "married" to the home, you're stuck with the price you paid -- even if the value of the property drops.
• As mentioned above, unless you're staying in a home for a very long time, you run the risk of owing more than your home is worth if area home values take a dive once the market is flooded with properties for sale.

Bottom line: You can renegotiate your interest rate, but you can never renegotiate how much you pay for a home.

2. There's a reason interest rates drop

Most of us look back on low interest rates fondly, imagining that rates were low due to an excellent economy. Actually, rock-bottom rates are only considered a necessity when the economy is in trouble and needs help. There was a reason those rates fell so low.

The Federal Reserve is responsible for regulating financial markets, making sure that things don't get too out of whack. One way it regulates markets is by setting the federal funds rate, the rate at which banks loan money to other banks. The federal funds rate is not the interest rate banks charge customers, but it is the rate banks use when deciding how much to charge. When the federal funds rate is low, so are the interest rates charged by lenders.

Here are three reasons the Fed is likely to drop the federal funds rate:

1. Inflation falls. The Fed has announced that it wants to see the rate of inflation at 2% or less. While we're headed in that direction, we're not quite there yet.
2. Unemployment picks up steam. Unemployment has a natural cooling effect on the economy. People become less willing (or able) to borrow money. Once demand for loans drops, the Fed lowers the federal funds rate, which is followed by lenders lowering their rates. It's all about luring borrowers back with low interest rates, and it works.
3. People stop spending. Once the public begins to hear about layoffs, they go straight-up Scrooge McDuck and refuse to part with their money. At the same time, those who are still working begin to sock money away in an emergency savings account or other FDIC-insured deposit account. In an effort to get people to spend and stimulate the economy, the Fed lowers rates. This makes car loans, credit cards, and other debts less expensive.

Bottom line: If you're waiting for rates to drop, don't forget why they drop. If there's any chance that your household will be impacted by layoffs or other economic upheaval, you may not be in a position to refinance.

3. How long are you willing to stretch your budget?

If you purchase a home when prices are at their peak and pay a higher interest rate than you're comfortable paying, chances are your monthly mortgage payment will be high. It's up to you to determine how long you'll be comfortable with those payments. Will they cut into other activities, like travel or spending time with friends? Will your mortgage payment make it more difficult to pay other bills or to get out of debt?

Only you can answer those questions. None of us can predict the future, although experts are happy to weigh in on when they believe rates will drop. Until that time, are you cutting your budget too close to the bone, or can you easily cover your new mortgage payment until the time comes to refinance?

There's an argument to be made for why you might want to buy now and refinance later, but like all big decisions in life, it pays to weigh the pros and cons before making this move.