Many Americans have a dream to one day own their own home. Purchasing a home is a very large investment, probably the biggest one that most people will ever make. Unless you have the cash to pay for a home when you want to move in, you will need to get a mortgage, which is a loan that allows you to pay for the home over time. Understanding mortgages can be very confusing at first, mainly because there are so many different types of mortgages designed for different needs. There is also a lot of financial jargon used when discussing mortgages, almost like a foreign language if you are unfamiliar with it. This article will help you to understand the basics of mortgage loan terminology.
Mortgages are funded by financial institutions such as banks and credit unions. These parties are the creditors, who will provide you with a loan to purchase your home. Mortgage brokers are individuals or agencies who are responsible for assessing a potential borrower's situation, and matching them up with the appropriate financial creditor. Before getting you pre-approved for a mortgage, brokers will do some background research on your financial history. They refer to credit rating agencies such as Fair Isaac Corp,
TransUnion, Equifax, and Experian to attain a credit history report on the applicant. Each of these agencies provides a unique credit rating, which is a measurement of the likelihood that you will pay off your debt.
If you are pre-approved by a
mortgage broker, they will continue to guide you through the mortgage process, and will analyze your income to match you up with the best available mortgage plan. There are certain income requirements followed by lenders. One of these is the 28/36 debt-to-income ratio. This rule states that you should be using no more that 28 percent of your income to make mortgage payments, and no more than 36 percent of your income to pay off other debt including credit cards and other loans.
When beginning the search for a mortgage lender, it is important to shop around, as rates offered will vary widely. It is also important to follow the leading financial indicators such as the stock market, as mortgage rates tend to change frequently according to those indicators. Mortgage rates may even change between the time you request a rate quote and the time it takes to process the mortgage paperwork. To avoid having rates increase during this time, you can request a rate lock, which will ensure that your rate does not change during the processing period.
At the beginning of the mortgage, you will make a down payment, which is usually between 5 and 20 percent of the cost of the home. The remaining cost of the home is called the principal, and this is the amount of money that you will be borrowing through the mortgage. The principal is then amortized or decreased as you make your mortgage payments. You are allowed to pay off the entire remaining principal at any time if you wish, however there may be fees for ending the mortgage early.
Mortgages come in several different variations, which can also be confusing. Here are some of the most common forms of mortgages that you should familiarize yourself with.
Fixed-Rate Mortgage (FRM)This type of mortgage is also known as the "conventional mortgage". A fixed rate mortgage has the same interest rate throughout its lifetime. This will ensure that the rate never rises, and also makes your financial budgeting easier since mortgage payments will always be the same.
Adjustable-Rate Mortgage (ARM)Also known as a "variable rate mortgage", this type of mortgage has an interest rate that will change. Adjustable rate mortgages start out with a very low interest rate, and then the rate increases according to a pre-selected index. The amount that the rate may rise and the amount of total monthly payments is restricted.
There are some ARMs that also incorporate a fixed rate, known as "hybrid mortgages". An example would be a 5/1 ARM, which would have a fixed rate for 5 years, and then the rate would adjust each year after.
Government LoanThere are mortgages available through government agencies such as the Veteran's Administration (VA) and the Federal Housing Administration (FHA).
Jumbo MortgageThis is also known as a "non-conforming mortgage". This type of mortgage simply exceeds loan amount limits set by secondary market creditors. Since this is a non-conforming mortgage, it usually carries a much higher interest rate.
100% MortgageA 100% mortgage finances the entire value of the home, requiring no down payment. This allows borrowers with no cash to purchase a home. Borrowers must have financial assets such as stocks and bonds, or purchase mortgage insurance.
Reverse MortgageA reverse mortgage is actually the opposite of a mortgage. Instead of making payments to build equity in a home, you can use the equity in your home to receive payments. Reverse mortgages are only available to homeowners over the age of 62 who want to borrow money against the value of their home. The loan is not paid back until the borrower dies or moves out of the home.
Second MortgageA second mortgage can be used to finance a large purchase such as a second home, or to refinance debt with a lower interest rate. The home is used as collateral, and in the event of default, the first mortgage must be paid off first.
Interest-Only MortgageWith this type of loan, payments are only made on the loan's interest. The principal is paid back in full at the loan's maturity date.
Another mortgage term to be familiar with is points, sometimes referred to as discount points. Discount points are an optional way of paying interest. Points may be purchased at a rate of one percent of the loan amount per point. The interest rate on the mortgage can usually be reduced by 1/8% per each point purchased. There are several factors that must be taken into account to decide if purchasing points is a good choice for you or not.
Now that you are more familiar with the mortgage loan terminology, you can begin searching for a
personal home loan mortgage. A good understanding of how the mortgage process works can help you to get the best mortgage rates, so it is important that you take your time and do your research before buying a home.
By: Wesley Fina
