Some people are able to purchase property outright. However, for most of us, that simply isn’t an option. That’s why more and more banks, credit unions, and other financial services companies offer home loans as part of their product portfolios. These loans can help make the dream of homeownership a reality for thousands of Americans each year.
Mortgage Options Beginner’s Guide
For many first-time homebuyers, applying for a mortgage loan can be intimidating. There are different rates, terms, and down payment options. This guide will help you learn the basics and make sense of it all.
What is a Mortgage?
Simply put, a mortgage is a loan contract between the borrower and the lender. The contract states the borrower agrees to pay the loan amount within the time specified in the document. Fees and interest are typically included in the agreement.
If the borrower does not pay off the loan within the agreed-upon time period, the lender can legally take possession of the home or other property on which the loan was taken out.
Many mortgages are for specific terms. For example, there may be a set interest rate and/or a defined monthly mortgage payment. Many mortgages are established for 10, 20, or 30-year time periods. Such loans can be modified or extended depending on the agreement.
Key Terms to Understand
Here are a few terms you’ll hear when applying for a mortgage:
- Interest rate: Interest is an additional fee for paying a loan over time. Interest is not typically charged if a house or other large investment is paid for in full. The interest rate will be specified in the mortgage loan document. Generally speaking, higher interest rates translate to more money in interest being paid over the life of the loan.
- Amortization: This basic accounting principle reduces the cost of a home loan over time. Many standard mortgages have an amortization schedule that allows borrowers to see how their costs will change over time. This can be very handy when budgeting for mortgage payments.
- Closing costs: Closing costs are charges in addition to the home purchase. Both home buyers and sellers often have closing costs. Closing costs for home buyers can include a loan origination fee, an appraisal fee, mortgage insurance, and any applicable property taxes or lawyer fees. Closing costs for home sellers may consist of title insurance, transfer taxes, realtor commissions, escrow charges, and recording fees, for example.
Pre-Qualification
Pre-qualification is an important step toward becoming a homeowner. You’ll need to schedule a meeting with your lender so they can review your employment and credit history. If approved, they will provide you with a pre-qualification letter stating the dollar amount and terms they are willing to provide.
Having a pre-qualification letter in hand doesn’t necessarily mean you’ll automatically be able to buy whatever house you are interested in. However, it does give you a leg up over other interested parties who still have yet to work out their financing for the same property.
How is a Monthly Mortgage Payment Calculated?
It’s relatively easy to determine most monthly mortgage payments. Start by taking the interest rate from your loan contract and dividing it by 12 to get your monthly interest rate. Then, multiply the loan amount and the monthly interest rate to get your monthly mortgage payment.
For instance, if your interest rate is 4%, dividing that number by 12 would give you a monthly mortgage rate of 0.0033. Taking that monthly mortgage rate and multiplying it by a mortgage of $150,000 would give you a monthly payment of $500.00.
Types of Mortgages
There are many different kinds of mortgages to choose from. Each of them has their unique advantages and disadvantages. The one you choose will depend on your individual needs.
Here are some of the more common kinds of home mortgage loans:
Fixed-Rate Mortgages
Fixed-rate mortgages are popular for borrowers who want to know exactly what they’ll be paying on their loan year in and year out. They are usually offered on 10, 15, or 30-year mortgage contracts.
Adjustable-Rate Mortgages
Adjustable-rate mortgages have interest rates that can vary according to the terms of the mortgage contract. There may be an initially lower interest rate, which can be reduced or raised accordingly.
Lower interest rates typically translate to lower monthly mortgage payments, and the reverse is true for higher interest rates. An adjustable-rate mortgage is ideal for individuals and families who only intend to stay in that particular home for a few years before the interest rate is subject to change.
Government-Backed Loans
There are several different types of government-backed home loans. They can be great for first-time homebuyers and applicants with little or no established credit history or a higher debt-to-income ratio (DTI). Some of the more popular options are:
- VA loans: The United States Veterans’ Administration supports VA loans. Veterans, active service members, and surviving military spouses may qualify for a VA home loan. Lenders may request a certificate of eligibility (COE) for VA loan requests. These loans usually don’t require mortgage insurance or a down payment and can have very low interest rates.
- FHA loans: FHA loans are backed by the U.S. Department of Housing and Urban Development’s Federal Housing Administration. A down payment of 10% is usually required for credit scores between 500 and 579, but that drops to 3.5% if your credit score is 580 or above. To qualify for an FHA loan, the property must be your primary residence, and you’ll need to occupy the home within 60 days after closing. The home will also need to be inspected and approved by the FHA.
Application Process with Mortgage Lenders
Applying for a loan can take a little time. Getting pre-qualified for a home loan is an important first step. Talk to your lender about your intentions.
If approved, you will receive a pre-qualification letter. That letter will make it easier for you to work with the seller should your offer be accepted.
If you are turned down, don’t take it personally. In many cases, you can ask the lender why the request was denied and what you can do to improve the odds of a more favorable outcome in the future.
Necessary Documentation
Before the transaction is complete, you will need several documents. These include:
Loan Estimate
A loan estimate is an assumed amount to be borrowed to purchase the home in question. The estimate may or may not be equal to the total home loan cost.
Home Appraisal
An appraisal is a vital part of the home-buying process. The house has to be evaluated to determine whether or not the seller’s asking price is at or near the property’s fair market value. A licensed home appraiser will schedule an appraisal. The appraiser will inspect the interior and exterior condition of the home and then issue a report with their estimated fair value of the house.
The appraisal can make or break a home transaction. If the appraisal is much higher or lower than the seller’s price, it can cause the deal to fall through. Having the home appraised can also make it easier for an underwriter to judge if a loan request should be recommended. On the other hand, if the appraised amount is in line with the asking price, it can make for a smoother negotiation process.
Underwriting
Underwriters are trained financial experts. An underwriter will review a person’s finances to determine whether or not they may be a credit risk.
Underwriters can often help borrowers avoid loans that would otherwise be considered risky. Mortgage underwriters can reject home loans if appropriate, but they usually require the assistance of a lender before a home loan can be approved.
Closing
Closing is the final step. After the last walkthrough, closing will be scheduled at the escrow or title office. All final paperwork will be signed and filed with the appropriate offices there.
The seller will be paid for the transaction, and the buyer will receive the keys to their new house. They’ll be given a copy of the deed or title (depending on where you live) and can move in whenever they want.
Additional Factors to Consider
Besides the home and neighborhood, there are many other things to evaluate when looking for a new home. The ideal house is one that you’ll enjoy living in for as long as you intend to. It should be something you’ll be proud to own.
Finances play a pivotal role in home ownership. For many single people and couples, a house is the most significant investment they will ever make. It isn’t something to be taken lightly or rushed. It’s important that you can afford the home you want without worrying about going into foreclosure.
In most cases, you’ll need to have enough money set aside for your down payment, insurance, closing costs, monthly mortgage payments, and monthly utility bills. This is in addition to your other regular monthly and annual expenses. This is why homeowners usually wait until they can effectively budget for such a purchase.
Down Payment
Many mortgage contracts will require a down payment. Down payments are a portion of the total loan amount. In some cases, a down payment can be as much as 20 percent or more of the home’s sale price.
Your loan agreement will dictate the down payment amount and terms. The down payment is usually paid upfront at closing.
Mortgage Insurance
Mortgage insurance may or may not be required for the home purchase. This kind of insurance protects the lender. If you default on your loan or pass away during the loan contract, the lender doesn’t have to worry about recouping the loan amount.
If you’re making a down payment of less than 20% on a home, you should expect to pay private mortgage insurance (PMI). The policy cost is often built into your monthly mortgage payments.
The value of the home, loan amount, monthly mortgage payment amount, mortgage term, credit score, interest rate, and kind of interest are some of the factors that a lender will use to calculate mortgage insurance. If necessary, you can work with them on a policy that will best meet both of your needs.
Refinancing
Some owners may opt to refinance their home mortgage. There are many reasons why this happens. A sudden need for increased cash, a decision to purchase a vehicle or other big-ticket item, paying for medical bills, and other hardships are all common examples.
Refinancing can help homeowners build equity sooner or even decrease the overall life of their home loan. It’s something you can consider if there is a need. Talk to your lender to determine if refinancing is right for your specific situation.
Using Home Equity
Another option for those needing additional cash is to use the equity in their home. Equity is built up by making mortgage payments over time. The more on-time payments you make, the more equity builds up.
A home equity line of credit (HELOC) allows borrowers to acquire cash based on the equity they’ve established by making regular monthly mortgage payments. Factors such as on-time payments, the original loan amount and interest rate, and the requested equity line are just some of the things that will be considered for HELOC loans. These loans can eventually be used to pay off the existing home mortgage.
Bottom Line
It’s not uncommon for several weeks, months, or even years to elapse before someone becomes a homeowner. Many important tasks must be completed along the way, and missing even one can set you back even further.
Discussing your goals with a mortgage lender such as Arnaiz Mortgage can help establish a realistic timeline. Contact us today to get started on your way to homeownership.