Simply put, a mortgage is a loan that enables you to purchase a home without fronting all of the money. It’s important to choose a mortgage that is right for you and takes into account your personal financial situation. Before we get too far, there is some mortgage lingo you should know:
• The term is the amount of time you have to pay off the loan, and usually ranges from 15 to 30 years.
• When the money you owe on your home loan (mortgage) is amortized, it’s divided over a period of time into regular payments.
• The interest rate is the cost of borrowing the money, shown as a percentage.
Understand Your Options
Fixed-rate mortgages are a pretty standard type of mortgage. The interest rate doesn’t change over the course of the mortgage term. A shorter term (like 15 years) will typically get you a lower interest rate, but also higher payments because they’re amortized over only 15 years. A 30-year mortgage will hike the rate up and increase the overall cost of the home, but the payments will be lower and possibly more manageable.
Adjustable-rate mortgages (ARMs) typically start with a low interest rate for a few years. Once the initial term is over, the rate shifts to correspond to market interest rates at predetermined intervals.
Balloon mortgages are a combination of the fixed-rate and adjustable-rate mortgages. You get a lower interest rate as if you’re paying off a shorter term mortgage and a lower payment as if it were a longer term loan. The outstanding balance (the “balloon”) has to be repaid in full to make up the difference after a specified term.
Interest-only mortgages usually incorporate the idea of adjustable rates, but the buyer has the option of only paying the interest that is owed. These mortgages are usually beneficial for people with fluctuating incomes or people who are confident they will be able to afford a larger regular payment in a few years.
What to Do First• Check your credit report. Check for and address any errors you might find. If your report doesn’t look as handsome as you thought it did, spend some time paying off excessive debt. You’ll build a better credit score, as well as free up money that was previously going toward debt repayment.
• Pre-approval. Before you even start looking at houses, you need to figure out how much you can afford. Getting pre-approved will give you a ballpark figure. You can get pre-approved through several different types of lenders, including financial institutions, mortgage companies or savings and loan associations. Explore multiple options, but start by getting more information from your current financial institution. Remember, the amount a lender pre-approves you for doesn’t mean that’s how much you can afford. That depends on your budget and future plans.
Choosing a Mortgage
As you shop for a home and mortgage, talk with your loan officer about your financial situation, the area you’re moving to and how long you intend to stay in the house. You might think about talking to a mortgage counselor as well. Here are a few more factors to consider:
• Down payment — Do you have enough saved up to put down the traditional 20 percent of the price of the house? If not, you may be faced with higher interest rates or the added cost of private mortgage insurance to your payments until you have 20 percent equity in your mortgage.
• Discount points — Discount points are a kind of prepaid interest that you can purchase with your mortgage. Each point usually costs about one percent of the total loan amount and lowers the amount of interest you pay on later payments.
• First-time help — If you’re a first-time buyer, you may be eligible for no- or low-down payment options, lower fees or adjustable-rate options. Ask your lender about first-time breaks.
• Pre-payment penalties — If you intend to pay your mortgage off early, you need to be aware of any pre-payment penalties. Most traditional fixed-rate mortgages tend not to have penalties, but non-traditional ARMs and interest-only options are more likely to have these fees.
Once you’ve finished the fun part — choosing a house to purchase — and a price has been agreed upon, you’ll have to conquer the closing process. You will likely see more paperwork than ever before, so be prepared and ask lots of questions.
• Closing costs — Fees for applications, appraisals, title, title insurance and taxes are just a few of the factors in closing costs. Most of the closing costs are typically paid by the buyer, but in tough real estate markets it’s becoming popular for the buyer to request the seller to pay these costs.
• Escrow — Escrow is when a third party holds money for two other parties of a transaction. With mortgages, escrow is an account often used to hold money for property taxes, insurance premiums and other costs. Lenders commonly collect this money as a part of the monthly mortgage payment to hold in escrow and pay out on your behalf, so you don’t have to pay lump sums for large bills. Putting money in an escrow account is also a way of the buyer and seller showing each other that they’re committed to the deal.
Getting a mortgage is a big deal, but it’s not uncharted territory. With first time home-buyer programs, lots of mortgage types and the right lender, refuge from your landlord might be closer than you think.