A mortgage is a loan from a bank or lender used to purchase a home. A mortgage is a secured loan, and the collateral for the loan is the home itself. The mortgage is the agreement between you and the lender on the agreed-upon terms of the loan. Since the mortgage is a secured loan, the lender can take possession of the property if the buyer fails to repay the borrowed money and interest. Here are a few of the main points to remember about a mortgage.
- Your home or other property secures it.
- You pay it back over time, between 15 to 30 years.
- If you fail to make payments at any point during the loan term, the lender can take possession of your home through foreclosure.
How does a mortgage work
When applying for a mortgage, it is essential to understand long-term debt. A mortgage is usually taken out for 30, 20, or 15 years. The loan term is the time you are allotted to pay the loan back. Your mortgage payment will go toward paying the principal, interest, property taxes, and homeowners insurance each month.
It is vital to make your mortgage payments on time, and if you cannot, contact your lender and discuss options. If you default on your mortgage, the lender can foreclose on your home. You have gone for an extended period without paying your mortgage when this occurs. A lender will not foreclose on a mortgage after just 1 or 2 late payments. You do not fully own the home until your mortgage is paid off in full, so the bank uses the home as collateral to ensure you pay back the loan.
Difference between a mortgage and a loan
A loan refers to a sum of money lent to another party. The money is borrowed with an agreement to repay the value or principal amount of the loan. The lender adds interest and finance charges to the principal value, which must be repaid in many cases. The different types of loans include secured and unsecured, commercial, and personal loans.
A mortgage is a loan on a property or home used as collateral for repayment of the loan. The borrower does not own the house until the mortgage loan is paid in full. If the borrower does not pay the mortgage, the lender can foreclose on the home and take it from the borrower.
A mortgage is a type of secured loan on a property or home. The lender can take the property from the borrower in the event of non-payment. A mortgage is a type of loan, but not all loans are mortgages.
Types of mortgages
- Fixed-rate mortgage has the same interest rate and principal/interest payment throughout the loan.
- Adjustable-rate mortgage (ARM) ARMs are 30-year loans with interest rates that change depending on how market rates move. You pay a fixed interest rate usually lower than 30-year fixed rates; the introductory period is typically 5, 7, or 10 years. Once that ends, the interest rate increases.
- Balloon mortgage is a real estate loan with an initial period of low or no monthly payments; in the end, the borrower must pay off the total balance in a lump sum. The monthly payments, if any, may be interest only, and the interest rate offered is often relatively low.
- FHA loan is insured by The Federal Housing Administration. An FHA loan can allow you to buy a home with a credit score as low as 580 and a down payment of 3.5%. With an FHA loan, you may be able to buy a home with a credit score as low as 500 if you pay at least 10% down.
- VA loans are insured by the Department of Veterans Affairs. A VA loan can allow you to buy a home with $0 down and lower interest rates than most other types of loans. You must meet the Armed Forces or National Guard service requirements to qualify for a VA loan.
- Jumbo loans are a type of financing that exceeds the limits set by the Federal Housing Finance Agency because it is worth more than conforming loan standards in your area. You usually need a jumbo loan to buy a high-value property.
- Reverse mortgages are for a homeowner who is 62 or older and has considerable home equity. They can borrow against the value of their home and receive funds as a lump sum, fixed monthly payment, or line of credit.
What is included in a mortgage payment?
- Principal is the portion of your loan balance paid down with each payment.
- Interest This is the interest rate charged monthly by your lender for your chosen mortgage.
- Property taxes Each month, 1/12th of your yearly property tax bill is a part of the mortgage payment. This is based on the tax assessment on your home for the year.
- Homeowners insurance covers your home against hazards like fire, theft, or accidents and is required by lenders.
- Mortgage insurance is an insurance policy that protects a mortgage lender or titleholder if the borrower defaults on payments, passes away, or is otherwise unable to meet the contractual obligations of the mortgage. Mortgage insurance can refer to private mortgage insurance (PMI), qualified mortgage insurance premium (MIP), or mortgage title insurance.
The Mortgage Process
There are specific steps in the mortgage process, so we will review these steps so you know what to expect.
1. Find a Lender
Before you begin looking for a home, you should review mortgage lenders. A mortgage loan is a long-term financial decision, and you will be dealing with the lender for an extended period. It is crucial to consider the reputation and strength of the company. Also, pay attention to closing costs and fees in addition to interest rates — they can contribute to a higher overall loan cost.
2. Get pre-approved.
Filling out a preapproval for a mortgage can save time and is helpful, so you know how much you will be able to borrow for a home loan. A preapproval will help you avoid looking at homes you may not be qualified to buy. The lender may look at your credit score, income, and debts to determine how much you qualify for. This process evaluates your ability to afford a mortgage payment and may help identify any potential
problems with your credit, so you can start working on them.
3. Shop for a Home/Make an Offer
After you have shopped for houses that fit your needs and budget and have selected the home that will work, it is time to research a few items.
First, it is essential to find out how motivated the seller is. Has the house been up for sale for four months, or did it just go on the market a week ago? Is the home priced comparatively to similar homes in the area? You and your agent will then come up with a fair market offer.
When a buyer accepts your offer, a purchase contract will be signed and sent to your lender, who can guide you through the loan application process. This formalizes both parties’ intention to go through with the deal.
4. Finalize the Loan
The next step in the process is called underwriting. The goal is to assess your ability to repay the money you borrow. This means reviewing your credit score, income, assets, and past and current debts. It also determines how much you can borrow and the interest rate. During this phase, the lender will require you to submit documents. These documents may include things like:
- Pay stubs for the past 30 days.
- W-2 forms for the past two years.
- Bank statement
- The previous year’s tax return or the past two years if you’re self-employed.
- Proof of any other income you receive.
- Proof of homeowner’s insurance.
After verifying your information, the lender will order a professional appraisal of the property and review the prices of recently sold homes in the area. This helps ensure the home’s sale price is close to its actual value. The lender will also request a search and review of the title to the property to ensure there aren’t any issues with the title that may affect your purchase.
5. Close on your home
Closing is the last stage in both the mortgage and home buying processes. The contracts are signed that complete the legal transfer of the home from the seller to you. It also finalizes your mortgage documents if you’re financing the purchase. Typical attendees include your real estate agent, the seller, and a closing agent. Some buyers and sellers may also bring their attorneys.
Additional Costs/Closing Costs
You’re required to pay closing costs and a down payment at closing. You can do this with a certified check or a wire transfer. Be sure to confirm the final amount with your lender or title company before requesting either from your bank.
Closing costs can vary, depending on the type of loan you choose, location, and property type. They typically range from 2% to 5% of the loan amount and may include some combination of these fees and payments:
- Application fee: Covers the cost for the lender to process your application.
- Appraisal fee: Is paid to the appraisal company to confirm the home’s fair market value.
- Attorney fee: Paid to an attorney to review the closing documents.
- Escrow fee: Is paid to the title company, escrow company, or attorney for conducting the closing.
- Lender fees: The origination fees and discount points are paid to the lender.
- Other expenses: These can include credit report fees, required inspections, survey costs, title search, and title insurance policy.
Where can I get a mortgage?
You can get a mortgage from a wide variety of lenders, including commercial banks, thrift institutions, mortgage loan companies, and credit unions. You can also find a mortgage loan through a broker, who does not lend you the money but instead finds a lender.
- APR is short for the annual percentage rate. This number represents the total cost of borrowing money to buy a home because it combines your interest rate with fees, points, and other lender charges. Looking at the APR different lenders offer gives you another way to compare costs
- Conforming is a mortgage with terms and conditions that meet the funding criteria of Fannie Mae and Freddie Mac. Conforming loans cannot exceed a specific dollar limit, which changes yearly. In 2022, the limit is $647,200 for most parts of the U.S. but is higher in some more expensive areas.
- Down Payment on a house is a large sum of money that the buyer pays upfront in a real estate transaction. The amount paid is usually a percentage of the purchase price and can range from 3% to 20% for a property.
- Escrow is a legal arrangement where a third party temporarily holds large sums of money or property until a particular condition has been met. It is used in real estate transactions to protect both the buyer and the seller throughout the home buying process.
- Interest Rate is the amount a lender charges a borrower and is a percentage of the principal loaned. The interest rate on loans is typically noted on an annual basis.
- Loan Servicer handles the payment processing and is the company that sends the monthly statements to the borrower.
- Private Mortgage Insurance, also called PMI, is a type of mortgage insurance you might be required to pay for if you have a conventional loan. Like other kinds of mortgage insurance, PMI protects the lender—not you—if you stop making payments on your loan
- Non-conforming is a mortgage that does not meet the guidelines of government-sponsored enterprises (GSE) such as Fannie Mae and Freddie Mac and, therefore, cannot be sold to them
- Mortgage Term A mortgage term is the number of years you have to pay off your mortgage.
- Mortgage Note is a legal document that sets out all the mortgage terms between a borrower and their lending institution.
- Underwriting is the process lenders use to make sure that borrowers are qualified. It happens after you apply for a mortgage, and it can last for weeks. During this time, an underwriter will look closely at your finances, plus examine the house’s appraisal and the title search, to make a final determination as to whether to give you a mortgage.
Buying a home is the largest purchase most people make in their lifetime. When shopping for a mortgage, it is crucial to understand the process and review your credit report to know where you stand.
If your credit has some issues, this is the time where you can work on improving your credit so you receive the best possible terms when applying for a mortgage. This information, if used correctly, can save you thousands throughout your mortgage.