Do Doctors Get Better Mortgage Rates?
Written by: Corey Janoff
Spring is here and under normal circumstances, this is prime house hunting season. This is particularly true for doctors as the academic year is coming to an end in June and many physicians are graduating from residency or fellowship and moving elsewhere for an attending position. For most doctors buying a house, especially early in their careers, a mortgage is a necessity. A common question you may be wondering is, do doctors get better mortgage rates?
Doctors are unique in that they have access to both conventional mortgages and these double-top-secret mortgages knows as physician mortgage loans (sometimes referred to as physician loans, doctor loans, doctor mortgages, etc.). These special home loans for doctors waive the primary mortgage insurance requirement (PMI) on mortgages where the borrow is putting less than 20% down on a home purchase.
For a typical borrower, if you buy a house with less than 20% down, you are often faced with a higher mortgage interest rate and an additional monthly fee for private mortgage insurance. This is a form of insurance to protect the lender (the bank) in case you default on your mortgage and don’t pay back your loan.
The laws of math and credit risk apply to doctors too. However, given most doctors have pretty stable incomes and are a lower than average risk of defaulting on their mortgage, some banks have chosen to bend the rules a little bit by waiving PMI and making it easier for doctors to get into homes with less than 20% down.
This does not mean that all doctors should pursue a doctor mortgage loan if they plan to put less than 20% down on a home. It is important to weigh the options available to find the one that best suits you. But regardless of the type of loan you go for, we are trying to determine whether doctors get better mortgage rates than the general public.
What Affects Mortgage Rates?
There are many variables that go into calculating a mortgage rate. Every single situation is unique and will likely result in a different interest rate. Some of the variables are more macroeconomic and completely out of your control. Others are more directly attributed to you as an individual.
Economy and Interest Rates
You don’t have any control over the economy and broad interest rate environment. At the time of this writing in mid-May 2020, overall interest rates are low, historically speaking. The 10-year treasury yield is at 0.65% as of 5/13/20. The 10-year has never been below 1% before 2020. Ever. When the economy is going through a rough patch, interest rates tend to be lower. When the economy is humming along, interest rates tend to rise. Not always, but usually. Also, inflation impacts mortgage rates as well – higher inflation equals higher rates.
The first thing you learn about if you take an economics class is supply and demand. Producers try to create enough supply to meet the customer demand in order to maximize their profits. That intersection point is the equilibrium.
If there is more supply than meets demand, producers need to lower their prices. Oil at this moment in time would be a good example of that.
If demand exceeds supply, producers can raise their prices, because some people will be willing to pay more in order to get the goods.
Mortgage lenders need to keep interest rates low enough to remain competitive. However, if they have more applications than they can handle, they will raise rates on loans to limit the demand so they can meet the demand (you don’t want loans missing closing deadlines – that’s bad for business).
Location, Location, Location
Everything in real estate seems to get back to the location of the property. Depending on state, county, city, or township laws and regulations, fees on mortgages can vary. Mortgage companies have to factor that into the pricing of their loans and charge accordingly.
A physician can typically get a lower interest rate for a primary residence than they can on a vacation home or investment property. Also, a single-family home, townhome, or condo can affect the interest rate as well.
Loan Amount and Loan-to-Value
Now we are getting into risk factors for the bank. The larger the loan amount and the greater the loan-to-value, the riskier the loan is to the lender and will therefore carry a higher interest rate. The loan-to-value is the balance of the loan in relation to the value of the home. For example, a $400,000 mortgage on home worth $500,000 is 80% loan-to-value. In other words, the larger your down payment, the lower your interest rate, in many cases.
Someone with a credit score of 800 is going to get a better interest rate than someone with a 670 credit score, all else being equal. Again, loan pricing is all about risk to the lender. The lower the risk, the lower the mortgage rate.
Debt Payment to Income Ratio
What percentage of your income is going towards debt payments? If you have a relatively high percentage of your income going towards minimum debt payments, you are at greater risk of defaulting on a loan. Any little surprise could put you in a position that hinders your ability to pay your debts on time and in full. A hit to income, an unexpected expense, another kid, a global health pandemic that shuts down your practice for several months, etc.
I generally advise doctors to keep their mortgage payment under 20% of their gross income, assuming they want to achieve financial independence in a reasonable timeframe. Lenders will approve you for far more than that. However, the larger you go, the higher the interest rate will likely be.
Pro tip: don’t be penny wise and pound foolish. Be pound wise with the big stuff, like a house, so you can afford to be penny foolish on the little pleasures in life.
One thing to note regarding doctor mortgage programs is some banks will ignore student loan payments when factoring the debt-to-income ratio. This is mind boggling to me, but a perk nonetheless for physicians looking to get attractive financing on a new house when transitioning from residency into practice.
A portfolio loan is one that the lender originates and services in house for the life of the loan. They don’t package it and sell it off to another party, such as Fannie Mae or Freddie Mac. Conforming loans that are sold off to Freddie and Fannie must meet strict guidelines.
If a bank is keeping the loan in-house, they can structure it however they want. This is how most banks handle their doctor loan programs. By keeping the mortgage loan in house, they have more flexibility with the structure and pricing of the loan and can therefore offer attractive mortgage terms to physicians if they choose.
The biggest advantage to the doctor mortgage programs is waiving private mortgage insurance (PMI) for loans with less than a 20% down payment. That is where the real savings comes from when compared to conventional loans with less than 20% down.
Factors such as the type of loan (30 year, 15 year, fixed, variable, etc.) can affect the mortgage rate. The “points” you pay up front to lower your mortgage rate, or get back in credits to lower closing costs if you go with a higher mortgage rate.
So, Do Doctors Get Better Mortgage Rates?
All that being said, after talking with a couple mortgage lenders about their doctor loan programs and what goes into calculating loan rates, I can confidently say that doctors do get better mortgage rates. Again, there are many variables that go into the calculation. However, if you take a doctor and compare him to an engineer with the same income, debts, credit score, etc., buying an identical house at the same time in the same neighborhood, getting a loan through the same bank, the doctor should have a lower interest rate.
Banks will not publish this data, but if you read between the lines, doctors are some of the most attractive borrowers out there. Lending money to a doctor, all else being equal, is super low risk. If the average default rate on mortgages in America is 1%, doctors probably default at 0.1% (I’m making that number up, but wouldn’t be surprised if it is accurate).
Lending money is all about risk and the likelihood that the money will be repaid. Banks have the data that suggests doctors are highly likely to pay back the money they borrow for a mortgage. Because the risk is lower than average, doctors get better mortgage rates with more favorable terms than the average person.
There’s a reason some banks have special doctor mortgage programs! Banks want doctors as borrowers because banks want their loans repaid! They can also cross sell them other products, but that’s a topic for another post.