Finding Your Home Loan
What Is A Mortgage?
Unless you’re planning to make an all-cash purchase (in which case you’ll be a very popular buyer!), you’re going to have to secure a mortgage. Though the process can be complex and daunting, it helps to understand what to expect and to take the time up front to really sit down and know what you want and need from your lender. This section is devoted to helping you reach both those aims.
In exchange for your mortgage, you will pledge your home as security for repayment of your loan. The lender agrees to hold the title to your property until you have paid back your loan plus interest. A mortgage loan is composed of two major components: principal and interest.
Principal is the actual amount of money you borrow. If you borrow $150,000, your mortgage principal is $150,000.
Interest is what you pay for the use of the money you borrow. How much you pay depends on a number of factors, including the interest rate, the type of loan and other factors, which are outlined in this guide. Interest can be deducted from your taxes, making it one of the most attractive practical benefits of home ownership. Your tax advisor will be able to provide more details about the tax savings benefits.
Amortization refers to the process in which the balance of principal versus interest changes over time. During the first few years of your mortgage (typically for the first 2 to 3 years of a 30-year loan) most of your payments will be applied toward interest. During the final years of your loan, your payments will be applied almost exclusively to the remaining principal.
How Should I Choose a Lender?
Carefully! Look for financial stability and a reputation for customer satisfaction. Select a company that gives helpful advice and that makes you feel comfortable. It is best to select a lender that has the authority to approve and process your loan locally, so you can more easily monitor the status of your application and ask questions. Plus, it helps when the lender knows about local home values and conditions. Do research -- ask your agent, family and friends for recommendations.
What is the best way to compare loan terms between lenders?
Speak with companies by phone, in person, or search the Internet. In addition to your research, I can provide a variety of proven lender and mortgage options. While competitive rates are important, remember that most lenders get their money from the same sources and therefore essentially have the same rates. As a result, the decision often comes down to other factors.
The Interest Rate
Interest Rates are most important when you lock a loan. What is important is that you have a loan program that fits your particular financial situation and needs at the time you purchase your home. Remember that each 1/4 point (0.25%) may not have as much impact as you think.
Typical Mortgage Providers
There are four main sources from which you can obtain a home loan:
Savings and loan associations (S & Ls)
Historically, Savings and Loan organizations have concentrated on home loans. However, with deregulation, the U.S. government has opened the door for S & Ls to provide checking accounts, savings accounts, personal and business loans, etc. Nevertheless, their primary lending focus still is on home loans.
Commercial banks
The largest and most diverse of all finance institutions, commercial banks offer a wide variety of services including savings accounts, investments, charge cards, as well as commercial, personal, residential and business loans, among others.
Mortgage bankers
Mortgage bankers typically use their own money to fund mortgages; however, they ultimately sell the loans to another entity such as a bank, a savings and loan, pension or retirement funds, private investors or government agencies such as FNMA ("Fannie Mae") or GNMA ("Ginnie Mae"), which purchase residential mortgages. When mortgage bankers sell a block of mortgages, they often will continue to service the loan and will be responsible for the collection of your payments. The mortgage banker is paid a small percentage of the interest (usually 1/4 % to 1/2 %) for this servicing agreement.
Mortgage brokers
Unlike mortgage bankers, mortgage brokers do not loan their own money. Mortgage brokers will arrange financing for a borrower from a lender, which could be a bank, savings and loan, a private individual or a credit union or pension fund. As the liaison between borrowers and lenders, they are paid a commission or a fee, which is paid by the borrower, the seller or even the lender.
Choosing A Mortgage
While there seem to be hundreds of different mortgages available, they all fall into a few basic categories. Some may fit your needs well, while other programs may be unwise or unattainable. It’s important to realize that the best product depends on where you are in your life at the time you purchase a home.
In recent years, lenders have developed a greater variety of loan programs, mainly because they have found that homebuyers have a variety of different needs. First-time buyers, families "moving up" into larger homes as they need more space, or moving into smaller homes after children have gone on to start their own families; all have different needs. There are so many different individual loan programs available that to compare them all would be impossible. The following provides brief descriptions of the most common categories of mortgage loans.
Fixed Rate Mortgages
Fixed-rate mortgages are the most popular type of mortgage. With this mortgage, the interest rate will remain the same for the entire term of the loan. Typically, the longer the term of the mortgage, the more interest is paid over the life of the loan.
Adjustable-Rate Mortgages
Adjustable rate mortgages all have certain similar features. They have an adjustment period, an index, a margin, and a rate cap. The adjustment period is simply how often the rate changes. Some change monthly, some change every six months, and some only adjust once a year. An Adjustable-rate mortgage (ARM) is a mortgage in which the interest changes periodically according to corresponding fluctuations in an index. All ARMs are tied to indexes. Indexes are simply an easily monitored interest rate that moves up and down over time. Adjustable rate mortgages vary and are tied to different indexes.
Conventional
This is a "traditional" mortgage, not directly insured by the Federal Government. Most conventional loans under $300,700 are administered through Fannie Mae or Freddie Mac (private corporations but regulated by the government). Loans greater than this amount are called "jumbo loans" and are funded by the private investment market.
FHA
These loans are insured by (but not funded by) the Federal Housing Administration (FHA) a division of the U.S. Department of Housing and Urban Development (HUD), and designed for, in general, low- to middle-income borrowers and many first time buyers. There are, however, limits to the maximum loan amount which will vary from county to county. FHA loans have somewhat more relaxed qualifying standards and ratios than conventional loans and have the availability of both 15 and 30 year fixed as well as 1 year adjustable mortgages.
VA
For those qualified by military service, the Veteran’s Administration (VA) insures (but does not fund) 15 and 30 year fixed as well as 1 year adjustable mortgages with lower down payment requirements and somewhat more lenient qualifying ratios.
No/Low Down Payment Mortgages
Sometimes having enough funds for the down payment and closing costs as required by a basic fixed-rate mortgage is not achievable. There is an array of no and low down payment mortgages. These types of loans are designed for homebuyers' varying needs and take into account the many other factors that qualify the financial condition of the borrower. Some loans are designed for buyers with good credit histories, some offer more flexible qualifying requirements and may be helpful for limited incomes, and others balance a low down payment with a higher interest rate.
Negative Amortization
Some adjustable rate mortgages allow the interest rate to fluctuate independently of a required minimum payment. If a borrower makes the minimum payment it may not cover all of the interest that would normally be due at the current interest rate. In essence, the borrower is deferring the interest payment, which is why this plan is called "deferred interest." The deferred interest is added to the balance of the loan and the loan balance grows larger instead of smaller, which is called negative amortization.
Hybrid Mortgage
Mortgage hybrids are a cross between a fixed rate and an adjustable-rate mortgage. They generally have fixed rates for the first three, five, seven or ten years and then they convert to adjustable-rate mortgages (ARMs) for the remainder of the loan term. With hybrid loans the fixed rate is established up front. Once the fixed-rate portion of the loan ends, the mortgage then behaves like an ARM with rate changes and monthly payments moving up and down each year as interest levels change. The attractiveness of these types of loans is that a borrower can sometimes find a 5/1 ARM rate at up to a full percentage point below a comparable fixed rate loan, and for several years the homeowner can benefit from a lower rate. Generally, the shorter the fixed-rate period, the better the up-front discount, the longer the fixed-rate period, the smaller the discount when compared to 30-year financing.
Common Questions
How do I choose the best loan program for me?
Your personal situation will determine the best kind of loan for you.
How large of a down payment do I need?
There are mortgages now available that only require a down payment of 5% or less. But, generally speaking, the larger the down payment, the less you have to borrow, and the more equity you'll have. Mortgages with less than a 20% down payment generally require a private mortgage insurance policy (PMI), which can be expensive.
Nevertheless, PMI is a fact of life for many homeowners. Even if you begin your mortgage with PMI, with time and appreciation, you often can reach 20 percent equity – at which time you can have the PMI removed. Often, removing PMI is just a matter of asking the lender, paying for an appraisal, paying a fee to the lender (approximately $300 - $500) and providing the necessary paperwork.
What does the interest rate really mean to me?
A lower interest rate allows you to borrow more money than a high rate with the same monthly payment. Interest rates fluctuate from day-to-day, so ask lenders if they offer a rate "lock-in," which guarantees a specific interest rate for a certain period of time.
Remember that a lender must disclose to you the Annual Percentage Rate (APR), which shows the cost of a mortgage in terms of an annual interest rate. Because it includes the cost of points, mortgage insurance and other fees, the APR generally will be higher. It will provide you with a good estimate of the actual cost of the loan.
What happens if interest rates drop after I finalize my fixed-rate loan?
If rates drop more than two percentage points or so and you plan to be in your home for the next 18 months, you may want to consider refinancing. However, since refinancing may require you to pay many of the same fees paid at the original closing, plus origination and application fees, you should make this decision carefully.
What are discount points?
Discount points (or just plain "points," as they are frequently called) allow you to lower your interest rate by paying prepaid interest up front. Each point equals 1% of the loan amount, and generally, each point paid on a 30-year mortgage will reduce the interest rate by 1/8 (or.125) of a percentage point. Sometimes lenders will provide you with the opportunity for a "buy down" – which literally offers you a chance to buy down the cost of the loan by paying more points up front.
When you shop for a loan, ask lenders for an interest rate with no points. Then, ask them how much the rate decreases with each point paid. Discount points are smart if you plan to stay in a home for some time since they can lower your monthly loan payment. Points are tax deductible when you purchase a home and you may be able to negotiate for the seller to pay some of them.
What’s considered a reasonable loan fee?
In most cases, loan fees should not exceed 5 percent of the loan amount, unless you are paying for a lower interest rate. However, there may be exceptions. I can help you evaluate loan fees and to understand exactly how much the entire loan will cost. It’s important to know all your loan costs up front.
