This mistake can cost home buyers up to $6,000 a year. Here's how to avoid it.

By Aarthi Swaminathan

Many prospective homeowners are leaving money on the table, Swiss study finds

Some U.S. homeowners overpay for their mortgages by as much as $6,000 a year, according to a new study.

Personal-finance experts advise that home buyers obtain quotes from multiple mortgage lenders in order to negotiate and find the cheapest loan. But half of home buyers over a five-year period only considered one lender, according to the study published by the Swiss Finance Institute.

In fact, only 3% considered more than three lenders.

"Our empirical results provide evidence that many borrowers from the most vulnerable part of the borrower population in the U.S. seem to overpay for mortgages," the authors of the study wrote.

What's more, "the borrowers that fare the worst often get government-guaranteed loans through the [Federal Housing Administration] program, which is aimed at lowering the cost of homeownership for lower-income households," they added.

Roughly 12% of mortgage applications are for FHA loans, according to the latest weekly report by the Mortgage Bankers Association. Home buyers with an FHA loan can put as little as 3.5% toward a down payment if their credit score is 580 or higher.

Looking at rates offered to borrowers by more than 600 mortgage lenders in 20 housing markets on a frequent interval, as well as the rates consumers eventually locked in, the Swiss Finance Institute authors found that borrowers with lower incomes, as well those who were first-time home buyers, could have reduced their mortgage rate by obtaining additional quotes.

FHA mortgage-loan borrowers could reduce their rate by an average of 28 basis points - from 7% to 6.72%, for example - if they were to obtain one additional quote, according to the study. And a quarter of these borrowers could lower their rate by 40 basis points, or from 7% to 6.6%, if they were to get one more lender quote.

A borrower with a $250,000 mortgage - the average home-loan amount between 2015 and 2019, the period during which the study was conducted - could be overpaying by as much as $6,250 after consulting just one lender, according to the study.

And because people aren't shopping around enough, lenders can exercise their market power to charge markups, the authors added. In other words: The more buyers shop around, the better their position to negotiate a lower rate.

Previous research has also highlighted the potential savings that come with comparison shopping. A separate 2023 analysis by Freddie Mac, for example, found that four additional rate quotes from lenders could potentially save home buyers $1,200 annually.

"Mortgage shopping is incredibly important to make sure you are getting the best possible rate," Erin Wood, the senior vice president of financial planning at Carson Group, told MarketWatch. "On a typical mortgage, the difference on a [1-percentage-point] lower rate could be a couple hundred dollars a month. Over a 30-year loan, that would cost the buyer an additional $75,000."

For many of Wood's clients, she said, those monthly savings can mean "being able to go on vacation or pay for your kids' education."

Why people don't shop around for a lower mortgage rate

The research is clear that efforts to comparison shop pay off. Why don't more borrowers do it?

The Swiss study's findings attributed this disconnect to a lack of financial "sophistication," which the authors defined as being "effective at searching and negotiating for low rates."

Many borrowers who don't compare rates are likely to be first-time buyers, who might be unfamiliar with the process of shopping around for a mortgage. "Many individuals don't shop for mortgages, because they believe mortgage shopping impacts their credit score negatively," Wood said.

But credit-scoring agencies actually expect consumers to shop around, she said; they bundle multiple inquiries from mortgage applications into a single one that ultimately appears on a person's credit report. "This allows you to comparison shop, get the best rate and not have your credit score impacted," she added.

Borrowers who are most likely to overpay for their mortgage have lower incomes, lower credit scores and higher loan-to-value ratios, the Swiss study found, meaning their down payment is low. A low down payment generally correlates with being a first-time home buyer.

The aversion to shopping around for rates could also come down to a correlation between higher incomes and increased access to credit from different lenders, which could skew how borrowers view their options.

Credit-card or insurance companies, which target consumers based on their credit score, may be more likely to send pre-screened offers to a higher-income borrower than to a lower-income borrower, resulting in the higher-income borrower having greater awareness of their loan options.

That somewhat explains why borrowers taking out jumbo loans - mortgages that exceed the federal government's standard loan limit, which is typically $766,550 - see a much smaller benefit from obtaining an additional rate quote. These buyers would only see an average rate reduction of 0.04 percentage points by shopping around, which implies they're already doing enough to find the best available rate.

Ultimately, a simple matter of convenience could be leading people to overpay for their mortgage.

Separate research from Fannie Mae found that 29% of borrowers in a 2022 survey said they only got one quote from a lender because they were satisfied with it. That finding implied that the borrowers were taking an easy path that required less time and critical thinking during an already time-consuming and stressful home-buying process, Fannie Mae said.

"Home buyers, especially first-time home buyers, may feel overwhelmed with the complexity of comparing the many components that make up mortgage costs, including interest rate, closing costs and points across different mortgage offers," Fannie Mae said. "Behaviorally, consumers might prefer to make a quick decision and opt to go with their first mortgage quote."

How have home prices and mortgage rates affected your life? We want to hear from readers who have stories to share about the effects of increasing costs and a changing economy. If you'd like to share your experience, write to readerstories@marketwatch.com. A reporter may be in touch.

-Aarthi Swaminathan

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04-06-24 0845ET

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