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Mortgage

A mortgage refers to an agreement between a lender and a borrower for the repayment of a loan granted on the basis of a security, technically known as “collateral”. In real estate transactions, the property being purchased is often pledged as collateral by creating a lien against it. The amount borrowed to make a purchase is referred to as a mortgage loan or a home mortgage. In common parlance, the three terms “mortgage”, “home mortgage”, and “mortgage loan” refer to the same thing, that is, a loan used to purchase a house.

Components of a Mortgage

The repayment of a loan taken on a mortgaged property is done through a number of installments, usually known as payments. Generally, you are required to make monthly payments, but you can also find options for biweekly, quarterly, or half-yearly payments. A mortgage payment typically consists of four parts, which are:

  1. Principal
  2. Interest
  3. Tax
  4. Insurance

We usually refer to these four components as PITI. While the first two must be paid to the lender, you have an option to pay real estate taxes and homeowners insurance on your own. When these are part of the payment, the lender must create an escrow account where the money is collected in advance to pay for the next year’s dues on taxes and insurance premiums. Private Mortgage Insurance (PMI) is a kind of insurance that becomes mandatory when you are putting down an amount less than 20% of the home value.

Apart from the monthly payments, the cost of borrowing money includes the following as well:

  1. Down Payment: It is your contribution towards the purchase of a house. It is usually 20% of the value of the property being purchased.
  2. Closing Costs: These include expenses, such as loan origination fees, title search fees, credit report costs, surveys, discount points, and more.
You can pay the down payment amount and the closing costs right at the time when the mortgage closes or arrange to pay these later by rolling them into a series of monthly payments.

Types of Mortgages

Mortgage loans exist in several types, out of which two are the most common forms. These Include:

  1. Fixed-Rate Mortgages: In this type, the lender offers a fixed rate of interest for the entire life of the loan. This means a borrower has to make a fixed payment each month with a guarantee that it will always remain the same irrespective of the changes in the market that affects the mortgage interest rates. Note that you do not have any other way than to go for a refinance in order to take the advantage of a lower interest rate that is now available in the market.
  2. Adjustable-Rate Mortgages: Also known as variable-rate or floating-rate mortgages, this a loan type where the interest rate is not fixed and is subject to change anytime according to the market movements. Some lenders may offer a fixed-rate option for the initial few years, during which the monthly payment is typically kept lower than that of a fixed-rate mortgage. This rate is sometimes referred to as a teaser rate.

Other home mortgage options may include interest only, jumbo loan, and FHA loans, etc. You should check with a lender to know the options that can suit your needs. While banks and big lenders, such as Bank of America, Chase Bank, Wells Fargo and Citibank, lack in variety, you can find mortgage brokers, credit unions and direct lenders offering a product customized to your typical financial needs. They are particularly the best sources of borrowing for people with bad credit or bankruptcy.

Mortgage Shopping Tips

When shopping for a mortgage loan, you must take action well in advance to ensure the following:

  1. You have a copy of your full credit report.
  2. Your FICO score is more than 600, which is usually considered as the benchmark to differentiate between people with a good credit score and those with a bad score. In case of a not-so-good credit score, wait for another few months to focus on clearing outstanding debts and cutting down unnecessary expenses in order to improve the score.
  3. You have saved enough to put as down payment and meet the closing cost expenses.
  4. You have a regular and stable source to income to make monthly payments for the next 20 or 30 years.
  5. The debt-to-income ratio including the loan you are considering now is not more than 36% of your gross income.
  6. You have decided on the amount you need to borrow. Note that you will generally not qualify for a loan amount that requires you to pay more than 28% of the gross income in mortgage payments.
  7. You can take enough time out to search for lenders, compare rates they offer, shop for a loan product that meets your specifications and find the house of your dreams.
  8. You are aware of the true cost of purchasing a house. You can do so by making good use of mortgage calculators and other tools. A calculator also enables you to generate the complete amortization schedule, which you must analyze to see what it takes to own a home on borrowed money.

The Pre-Approval Process

Once you are through with these preliminary steps, you can start the prequalification process at a lender that you think is the best. It is simple to get pre-qualified for a mortgage. Only you need to supply information about your assets, income and liabilities. A pre-qualification process is easy and can be done online as well. A lender is, however, not bound to offer the same borrowing amount and interest rate when you actually apply for the loan.

In most cases, you need to get pre-approved prior to making any serious attempt to search for the house of your dreams. A pre-approval process requires verification of credit rating, employment details and other financial information. A document known as Good Faith Estimate is sent to you, which contains a list of all expected charges that you are supposed to pay at the time of closing.


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