Mortgage

What Is a Mortgage?

The term “mortgage” refers to a loan that is used to purchase or maintain a home, land or other types of real estate. The borrower agrees to pay the lender over time, typically in a series of regular payments divided into principal and interest. The property serves as collateral to secure the loan.

A borrower must apply for a mortgage through their preferred lender and make sure they meet several requirements, including minimum credit scores and down payments. Mortgage applications go through a rigorous underwriting process before they reach the final stage. Types of mortgages vary depending on the needs of the borrower, for example, conventional and fixed-rate loans.

IMPORTANT TAKEAWAYS

  • Mortgages are loans that are used to purchase homes and other types of real estate.
  • The property itself serves as collateral for the loan.
  • Mortgages are available in a variety of types, including fixed and variable interest rates.
  • The cost of a mortgage depends on the type of loan, the term (for example, 30 years) and the interest rate that the lender charges.
  • Mortgage rates can vary greatly depending on the type of product and the qualifications of the applicant.

How mortgages work

Individuals and companies use mortgages to buy real estate without paying the entire purchase price in advance. The borrower repays the loan plus interest over a certain number of years until he owns the property freely and freely. Mortgages are also called liens against property or claims to property. If the borrower stops paying the mortgage, the lender can foreclose on the property.

For example, an apartment buyer pledges his house to his lender, who then has a claim to the land plot. This ensures the lender’s interest in the property should the buyer default on his financial obligation. In the event of a foreclosure, the lender can evict the residents, sell the property and use the money from the sale to pay off the mortgage debt.

The mortgage process

Potential borrowers begin the process by applying to one or more mortgage banks. The lender will require proof that the borrower is able to repay the loan. This may include bank and investment statements, current tax returns and evidence of current employment. As a rule, the lender will also conduct a credit check.

If the application is approved, the lender will offer the borrower a loan up to a certain amount and at a certain interest rate. Home buyers can apply for a mortgage after they have selected a property to buy or while they are still buying one, a process called pre-approval. Pre-approval for a mortgage can give buyers an edge in a tight housing market because sellers know they have the money to back up their offer.

As soon as the buyer and seller have agreed on the terms of their business, they or their representatives will meet for a so-called closing. This is when the borrower makes his down payment to the lender. The seller transfers ownership of the property to the buyer and receives the agreed amount of money, and the buyer signs all the remaining mortgage documents.

Types of mortgages

Mortgages come in various forms. The most common types are 30-year and 15-year fixed-rate mortgages. Some mortgage terms are as short as five years, while others can last 40 years or more. Stretching payments over several years can reduce the monthly payment, but also increases the total amount of interest that the borrower pays over the term of the loan.

Within the different maturities, there are numerous types of home loans, including Federal Housing Administration (FHA) loans, U.S. Department of Agriculture (USDA) loans, and U.S. Department of Veterans Affairs (VA) loans, which are available to specific populations that may not have the income. Credit scores or down payments required to qualify for conventional mortgages.

Below are just a few examples of some of the most popular types of mortgage loans available to borrowers.

Fixed-rate mortgages

With a fixed-rate mortgage, the interest rate remains the same for the entire term of the loan, as well as the borrower’s monthly payments for the mortgage. A fixed-rate mortgage is also called a traditional mortgage.

Variable Rate Mortgage (ARM)

With a variable-rate mortgage (ARM), the interest rate is fixed for an initial term, after which it can periodically change based on the prevailing interest rates. The initial interest rate is often lower than the market rate, which can make the mortgage more affordable in the short term, but possibly less affordable in the long term if the interest rate increases significantly.

Arms usually have limits or caps on how much the interest rate can increase with each adjustment and overall over the life of the loan.

Interest-free loans

Other, less common types of mortgages, such as interest-only mortgages and payment option mortgages, can involve complex repayment plans and are best used by experienced borrowers.

Many homeowners ran into financial difficulties with these types of mortgages during the housing bubble in the early 2000s

Reverse mortgages

As the name implies, reverse mortgages are a completely different financial product. They are intended for homeowners aged 62 and over who want to convert part of the equity in their homes into cash.

These homeowners can take out loans against the value of their home and receive the money as a lump sum, fixed monthly payment or line of credit. The entire loan balance becomes due when the borrower dies, moves away permanently or sells the house.

With any type of mortgage, borrowers have the opportunity to purchase discount points to reduce their interest rate. Points are essentially a fee that borrowers pay upfront to get a lower interest rate over the life of their loan. When comparing mortgage rates, be sure to compare interest rates with the same number of discount points to get a real apple-to-apple comparison.

Average mortgage rates for 2022

How much you have to pay for a mortgage depends on the type of mortgage (for example, fixed or adjustable), its term (for example, 20 or 30 years), the discount points paid and the interest rates at time. Interest rates can vary from week to week and from lender to lender, so it’s worth looking around.

Mortgage rates were at record lows in 2020, with interest rates for a 30-year fixed-rate mortgage bottoming out at an average of 2.66% in the week of December. 24, 2020.5 Interest rates remained stably low throughout 2021 and have been rising steadily since December. 3, 2021. According to the Federal Home Loan Mortgage Corp., average interest rates as of February 2022 looked like this:

  • 30-year fixed-rate mortgage: 3.92% (0.8 points)
  • 15-year fixed-rate mortgage: 3.15% (0.8 points)
  • 5/1 variable-rate mortgage: 2.98% (0.8 points)

A 5/1 variable rate mortgage is an ARM that maintains a fixed rate for the first five years and is adjusted every year thereafter.

How to compare mortgages

Banks, savings banks and credit unions at one time were practically the only sources of mortgages. Today, a growing share of the mortgage market includes non-bank lenders such as Better, loanDepot, Rocket Mortgage and SoFi.

If you are looking for a mortgage, an online mortgage calculator can help you compare the estimated monthly payments, based on the type of mortgage, the interest rate and the planned down payment. It can also help you determine how expensive a property is that you can reasonably afford.

In addition to the principal and interest you pay on the mortgage, the lender or mortgage servicer may set up an escrow account to pay local property taxes, homeowners insurance premiums, and certain other expenses. These costs will be added to your monthly mortgage payment.

Also note that if you make less than a 20% down payment when you take out your mortgage, your lender may require you to take out private mortgage insurance (PMI), which becomes another additional monthly fee.

Why do people need mortgages?

The price of a home is often much higher than the amount of money that most households save. As a result, mortgages allow individuals and families to purchase a home by making only a relatively small down payment, for example, 20% of the purchase price, and getting a loan for the remaining amount. The loan is then secured by the value of the property in case the borrower defaults.

Can everyone get a mortgage?

Mortgage lenders must approve potential borrowers through an application and underwriting process. Housing loans are granted only to those who, in proportion to their debts, have sufficient assets and income to practically bear the value of a home over time. The creditworthiness of a person is also assessed when deciding to extend a mortgage. The interest rate on the mortgage also varies, with riskier borrowers receiving higher interest rates.

What does fix vs. variable mean in a mortgage?

Many mortgages have a fixed interest rate. This means that the interest rate will not change for the entire term of the mortgage — usually 15 or 30 years — even if interest rates rise or fall in the future. A variable or floating rate mortgage (ARM) has an interest rate that fluctuates over the life of the loan, depending on what the interest rates do.

How many mortgages can I have for my home?

Lenders usually issue a first or primary mortgage before allowing a second mortgage. This additional mortgage is commonly referred to as a home equity loan. Most lenders do not provide for a subsequent mortgage, which is covered by the same property. There is technically no limit to how many subordinated loans you can have for your home, as long as you have the equity, debt-to-income ratio, and creditworthiness to be approved for them.

Where can I get a mortgage?

Mortgages are offered from a variety of sources. Banks and credit unions often offer home loans. There are also specialized mortgage companies that deal only with housing loans. You can also hire an independent mortgage broker who will help you find the best interest rate among various lenders.

The Bottom Line

Mortgages are an essential part of the home buying process for most borrowers who are not sitting on hundreds of thousands of dollars of cash to buy a property outright. There are a variety of different types of home loans for your circumstances. Various government-backed programs are making it possible for more people to qualify for mortgages and make their dream of home ownership a reality.

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