A lock period is the time period that a lender freezes the interest rate on an approved loan while the borrower completes the tasks related to closing a sales transaction. During this time, the interest rate is “locked in,” regardless of market fluctuations. This courtesy provides the borrower with financing certainty, so he does not need to worry about a sudden change in the interest rate impacting the feasibility of the financing terms. Home mortgages are the most common example of a loan type that uses a lock period.
Interest rates on certain types of loans fluctuate based on market indicators. Mortgage interest rates, for example, can often be tied to the interest rate that a government's central bank sets for government debt. As the government tries to manipulate the economy, it raises or lowers the interest rate, causing mortgage interest rates to go up or down. Interest rates on mortgages are also tied to fluctuations in the stock market.
Financial and market indicators fluctuate constantly. For example, a government can change the interest rate on government debt as frequently as every six weeks. These fluctuations do not need to result in a drastic change in mortgage interest rates. Even a quarter of a percentage point change in a rate of interest will significantly change the monthly payment on a loan and the final repayment amount.
Buying a house is a complicated transaction. Often, the transaction is timed so the sale of one house happens simultaneously with the seller's purchase of another house. Even if the seller is not trying to cash out of one house in time to close on another, there are multiple tasks that have to be completed before the mortgage loan paperwork can be signed. Easily, three months or more may elapse between the time the buyer obtains a mortgage loan approval at a certain interest rate and the time the loan is actually closed.
Ordinarily, the interest rate that is in effect at the time the loan closes is the interest rate that is used for the loan. Mortgage lenders, however, make special provisions for borrowers to allow them to complete the tasks associated with a real estate sale. When the borrower gets the loan approval, the lender freezes the interest rate for a set amount of time. This lock period can often last 60 or 90 days, or sometimes longer.
Without this lock period, a buyer could find that his monthly loan payment has increased significantly while the parties were trying to settle other issues. The lock period enables the buyer to proceed with the transaction while knowing the exact financing terms. A guarantee is beneficial if interest rates go up, but one of the downsides of a lock period is that it works against the borrower if interest rates go down. Lenders will not typically allow borrowers to take the lower rate without re-applying for the loan.
