A mortgage is a long-term loan from a financial institution that helps you purchase a home, with the home itself serving as collateral.
What is a mortgage?
A mortgage is a long-term loan used to buy a home. Mortgages come with a set of loan terms – the length of time to pay off the loan – typically between eight and thirty years. Mortgage payments usually include both interest and principal (although there are mortgages that only require interest payments), along with escrow payments to cover property taxes and homeowners insurance.
How does a mortgage work?
When you take out a mortgage, you have a specific loan term to pay off the debt and a total loan amount to repay. The majority of your monthly payment will consist of interest and principal, also known as the loan balance.
“Each month, a part of your monthly mortgage payment goes to pay off that principal, or mortgage balance, and part goes to interest on the loan,” explains Robert Kirkland, a mortgage industry professional and financial advisor at Breal Healy & Associates in Greenbelt, Maryland. As you pay down the loan, a larger portion of your payment goes to the principal.
Most mortgages are fully amortized, meaning they are repaid in installments – regular, equal payments on a set schedule, with the final payment paying off the loan at the end of the term. An exception to this is the rare balloon mortgage, where you pay a large sum at the end of the loan term.
Mortgages are also secured loans, meaning they are backed by collateral – in this case, your home. This means that if you fail to pay your mortgage, your home could go into foreclosure, and the lender could reclaim it.
Although you may feel that the home is yours, “you do not have actual ownership of the property until the mortgage loan is fully paid off,” says Bill Baker, CEO of Longbridge Financial in Parsippany, New Jersey. “You will also typically sign a promissory note at closing, which is the personal commitment to pay the loan.”
Types of mortgages
There are many types of mortgages available to borrowers.
Conventional loans – a conventional mortgage is not backed by the government or a government agency; rather, it is issued and guaranteed by a private lender (bank, credit union, mortgage company).
jumbo loans – a jumbo loan exceeds the size limits set by U.S. government agencies and has stricter underwriting standards. These loans may be necessary sometimes for high-priced properties – those that far exceed half a million dollars.
Government-backed loans – these loans include VA loans, USDA loans, and FHA loans and have more relaxed borrower qualifications than many conventional mortgages.
Fixed-rate mortgages – fixed-rate mortgages have a fixed interest rate that remains constant throughout the life of the loan (with terms typically being 30, 20, or 15 years).
Adjustable-rate mortgages – an adjustable-rate mortgage has interest rates that change, following general interest rate movements and financial market conditions. Often, there is a fixed interest period for the first few years of the loan, after which the adjustable rate takes effect for the remainder of the loan term. For example, “in a 5/1 ARM mortgage, the number 5 means the first five years during which the interest rate remains fixed, while the number 1 indicates that the interest rate adjusts once a year thereafter,” notes Kirkland.
Traditional fixed-rate mortgages are undoubtedly the most common type of mortgage loan.
What
What is included in a mortgage payment?
There are four main components of a mortgage payment: principal, interest, taxes, and insurance, collectively referred to as “PITI.” There may be other costs included in the payment as well.
Principal – The specific amount of money you borrow from a mortgage lender to buy a home. If you’re buying a house worth $400,000, for example, and you borrow a loan of $350,000, your principal is $350,000.
Interest – Interest is what the lender charges you for borrowing that money; it is the “cost” of the loan. Interest is expressed as a percentage and is based on the principal amount borrowed.
Property Taxes – Lenders typically collect property taxes associated with the home as part of the monthly mortgage payment. The money is usually kept in an escrow account, which the lender will use to pay the property tax bill when it’s due.
Home Insurance – Home insurance provides you and the lender protection in case of a disaster, fire, or other incident that affects your property. Often, lenders collect the insurance premiums as part of the monthly mortgage bill, place the money in escrow, and pay the premiums to the insurance provider when they are due.
Mortgage Insurance – Your monthly payment may also include fees for your mortgage insurance. For conventional loans, this type of insurance is required when the buyer makes a down payment of less than 20 percent of the home purchase price.
How to Compare Mortgage Offers
To find the mortgage that suits you best, assess your financial health, including your income, credit history, asset points, and savings. Also, spend some time shopping around with different mortgage lenders.
“Some have stricter requirements than others,” says Kirkland. “Some lenders may require a 20 percent down payment, while others may require only 3 percent of the home purchase price.”
“Even if you have a preferred lender in mind, go to two or three lenders – or even more – and make sure you’re fully exploring your options,” says Baker. “A difference of just a tenth of a percentage point in interest rates may not seem like a big deal, but it can translate to thousands of dollars over the life of the loan.”
When comparing offers, look at their full range of features. Here are the key parts of the offers that you should evaluate:
Interest Rate and Annual Percentage Rate (APR): The interest rate is your cost to borrow, expressed as a percentage of the principal amount borrowed. The APR includes the mortgage interest rate plus any additional loan fees, representing your total cost of borrowing.
Rate Type: Are you looking at a variable rate that will change after a certain period, or will it remain fixed for the life of the loan?
Loan Term: How long it will take to pay off the loan. Note: long-term loans allow for lower monthly payments, but you will pay more in interest over the life of the loan.
Fees: Some lenders charge fees that other lenders do not, such as origination fees, application fees, and early repayment penalties. Always understand the range and cost of these fees when comparing offers.
Mortgage Terms You Should Know
What is mortgage amortization?
Mortgage amortization describes the process of repaying a loan, like a mortgage, in installments over a period of time. A portion of each payment goes toward the principal, or the amount borrowed, while the other portion goes toward interest.
What is the annual percentage rate (APR)?
The annual percentage rate (APR) reflects the annual cost of borrowing for a mortgage. It is a broader measure than just the interest rate alone, as the APR includes the mortgage interest rate as well as discount points and other fees related to the loan.
What is…
What does “conforming” mean?
“Conforming” refers to loans that meet the criteria to be purchased by Fannie Mae or Freddie Mac, the important government-supported enterprises (GSEs) in the U.S. mortgage market. These criteria include minimum credit scores, maximum debt-to-income (DTI) ratios, loan limits, and other requirements. Fannie Mae and Freddie Mac buy loans from mortgage lenders to create mortgage-backed securities (MBS) for the secondary mortgage market.
How does a non-conforming loan differ from a conforming loan?
A “non-conforming” loan, or “jumbo loan,” does not meet the requirements that allow it to be purchased by Fannie Mae or Freddie Mac. One example of a non-conforming loan is a jumbo loan.
How does a down payment work?
A down payment is the amount the buyer pays upfront to purchase a home. Buyers typically put a percentage of the home’s value down as a down payment and then borrow the rest in the form of a mortgage. A larger down payment can help improve the borrower’s chances of securing a lower interest rate. Different mortgages have different minimum down payment requirements.
What is an escrow account?
An escrow account holds part of the monthly mortgage payment that covers home insurance and property tax fees. The escrow account also holds the funds deposited by the buyer between the time their offer is accepted and closing.
What is a mortgage servicer?
A mortgage servicer is the company that handles mortgage payment processing and all day-to-day tasks related to managing the loan after it closes. For example, the mortgage servicer collects your payments and ensures that, if you have an escrow account, your taxes and insurance are paid on time.
What is private mortgage insurance?
Private mortgage insurance (PMI) is a type of insurance taken by the lender but usually paid by you, the borrower, when the loan-to-value (LTV) ratio is greater than 80 percent (meaning you made a down payment of less than 20 percent of the home’s purchase price). If you default and the lender has to foreclose, PMI covers a portion of the difference between what they can sell your property for and what you owe on the mortgage.
What is a promissory note?
A promissory note is a legal document that binds the borrower to repay a specified amount of money over a specified period according to certain terms. These details are outlined in the promissory note.
What is mortgage underwriting?
The mortgage underwriting process is when a bank or mortgage lender evaluates the risk of lending to a specific individual. The underwriting process requires an application and takes into account factors such as credit report, scores, income, potential debt, and the property value the borrower intends to purchase. Many lenders follow standard mortgage underwriting guidelines from Fannie Mae and Freddie Mac when determining whether to approve a particular loan.
Source: https://www.aol.com/mortgage-definitive-guide-aspiring-homeowners-145739492.html
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