You buy a home with a mortgage and your home is used as collateral for lender to finance the purchase of your home; you agree to pay the lender based on a repayment schedule. The loan is secured by a lien (the "mortgage") against the property. If you default on the mortgage, the lender may foreclose your property.
When you are looking for a mortgage, ask yourself these two questions:
Usually a lender will look at your income to debt ratio based on the loan amount that you want to borrow, credit history, net worth, and employment to determine the credit risk for them to make a loan to you. Why does my length of time in the house matter?
If you are going to stay in your house and plan to pay off your mortgage over its lifetime, you should get a fixed rate loan where the mortgage payments will not change. The interest is a little higher than with an Adjustable Rate Mortgage but you have the security of knowing what your loan payments will be.
If you are not going to be in the house for long term, you can get a short term mortgage such as ARM that has lower interest rate. The initial interest rate will be fixed for a period of time and then adjusted based on the then index of the ARM. If rates take a big jump in a few years, it won't matter because you're planning on selling then anyway.
Mortgage brokers, lenders and your local banks are where you can find out the latest rates for each type of loan. Check them out online or call them to get a quote for your loan. Shop around for rates in your city to see who is offering the best deal locally. But be sure you are comparing the exact same loan (e.g. compare 30 years to 30 years, etc.); look at the points as well as the interest rate.
The Annual Percentage Rate (APR) is what you will actually end up paying in addition to the principal. It wraps up the interest, points and fees in an effective annual rate. (When a lender quotes you a rate, it will be for interest only, so ask to see the APR.) As above, when you are using the APR to compare loans, make sure you are comparing apples to apples. You need the same loan from different lenders to make the comparison work.
A loan has a life — whether it's 15, 30 or any length that the lender allows. You pay in installments, and the principal decreases (except in the case of interest-only loans or negative amortization) until the loan is paid off by the end of the term. The payments are evenly spread over the life of the loan, with the interest payments made up of the majority of the payment at the beginning, and then principal paid off toward the end of the term. Pay attention to the amortization schedule, which shows the payments for the life of the loan including interest.
A mortgage loan may have prepayment penalty applied for a specific period of time, usually one, two, or three years after the loan is originated. The reason that there is a prepayment penalty could be one of these reasons; the lender offers you a very low interest rate, thus in order to make up for their profit, your loan has to be in effect for at least a certain period of time, or you have bad credit and the lender has to impose prepayment penalty in order to minimize the credit risk in making the loan to you. Prepayment penalty could be something like six months of interest or a percentage of the principal remaining on the loan, and it varies.
If you are making a down payment of less than 20 percent, you will most likely have to get Private Mortgage Insurance (or PMI). It ensures that the lender is guaranteed, by the mortgage insurer, 80 percent of the loan if you default. The insurance premium amount varies by the loan to value of the house and type of loan. Another option is to get a second mortgage to use for part of the down payment. For example, you can get an 80/10/10 loan (80 percent loan, 10 percent second mortgage, and 10 percent down) or a variation thereof and avoid paying PMI. Government loan programs, such as FHA or VA loans, are insured or guaranteed by the government rather than PMI.
There are many types of loan program these days to fit almost anybody. Factors such as credit rating, employment, debt to income ratio, net worth, and loan to value (LTV, the ratio of the fair market value of an asset to the value of the loan that will finance the purchase) are used to qualify you for a loan with certain interest rate. Under an ideal situation, in order to qualify for the best rate under any type of mortgages, a person must have excellent credit history, stable job with good employment history, low debt to income ratio, adequate LTV (usually the less the better) and the property is owner occupied. He/she should also be able to show the required documentation for the loan (as this is required by the “Full Doc.” loan program which guarantees the best rate).
Generally speaking, you can purchase a home with a value of two or three times your annual household income. However, the amount that you can borrow will also depend upon your employment history, credit history, current savings and debts, and the amount of down payment you are willing to make. You may also be able to take advantage of special loan programs for first time buyers to purchase a home with a higher LTV.
With a fixed-rate mortgage, the interest rate stays the same during the life of the loan. With an adjustable-rate mortgage (ARM), the interest changes periodically, typically in relation to an index. While the monthly payments that you make with a fixed-rate mortgage are relatively stable, payments on an ARM loan will likely change. There are advantages and disadvantages to each type of mortgage, and the best way to select a loan product is by talking to a lender.
An index is an economic indicator that lenders use to set the interest rate for an ARM. Generally the interest rate that you pay is a combination of the index rate and a pre-specified margin. Three commonly used indices are the One-Year Treasury Bill, the Cost of Funds of the 11th District Federal Home Loan Bank (COFI), and the London InterBank Offering Rate (LIBOR).
There is no simple formula to determine the type of mortgage that is best for you. This choice depends on a number of factors, including your current financial picture and how long you intend to keep your house.
For most homeowners, the monthly mortgage payments include three separate parts:
The amount of cash that is necessary depends on a number of items. Generally speaking, though, you will need to supply:
TIL outlines the costs of your loan and discloses the APR and other terms of the loan, including the finance charge, the amount financed, the payment amount, and the total payments required. Since it's possible that the annual percentage rate (APR) calculated at your loan application will change a little before closing, your lender is required to give you the final version of your TIL disclosure at or prior to the closing meeting.
These are documents conveying a lien on your property as security for repayment of your home loan. (If you default on your loan, your lender has the right to foreclose your ownership interest and take possession of the property.)
The mortgage (or promissory) note is a legal "IOU." The note represents your promise to pay the lender according to the agreed terms, including the dates on which your home loan payments must be made and the location to which payment must be sent.
A point equals one percent of the loan. Points are usually paid at closing. If your loan amount is $100,000 then one point would equal $1,000 which is one percent. Discount Points are fees paid by the buyer to the lender to reduce the loan's interest rate. The number of discount points required to buy down your interest rate will vary based on loan type.
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