Mortgage Basics

Prior to going out and purchasing your new home you should understand some of the lingo used by mortgage companies, banks, and other lending institutions so you understand exactly where you stand.

When you talk with a lending company over the telephone or in person, in order to see if you qualify for a home mortgage loan you may hear such things as mortgage loan, credit score, interest rate, prequalified, preapproved, mortgage brokers, Private mortgage insurance, Buydowns, closing costs, Mortgage life insurance, Disability insurance, down payments, and escrow accounts.

Mortgage Loan

A mortgage loan in essence is the money that you are borrowing from a lending company to purchase the home of your dreams. Then lending company will place a lien on the home and in case you default, they can repossess your home.

Credit Scores and Scoring

Getting the best loan with the lowest interest rate has much to do with your credit rating and your credit score. You may wonder how you can apply online or just talk with someone over the telephone and they can let you know if you can be approved for a mortgage loan in just a couple of minutes. The answer is very simple. All they have to do is run a credit check and they will have your credit score within just a few seconds from the major credit bureaus.

This credit score is derived from information that is found in your credit report such things as if you pay on time, if you have outstanding debt, etc. The higher you score the better chances you have in getting a mortgage loan. Individuals with the highest scores get the lowest interest rates.

The scoring system runs from 300 to 850. Most people in the United States have scores between 600 and 800. According to the Fair Isaac Corporation that developed this type of scoring states that scores of 720 and up will receive the best interest rates on their mortgage loans. You should learn your credit score before applying and try to correct any errors that may stop you from getting a lower interest rate.

Interest Rate

The interest rate can vary considerably according to your credit score. This is the amount that will be applied to your mortgage loan and raise the monthly payment of your home loan. Learn what interest rate you can get and try to get the lowest around. The lower interest rate can help you purchase a more expensive home.

Prequalification

Learning if you can get a loan is the very first step. A prequalification does not mean that you will receive the loan that you desire. This just means that the lending company believes you can be approved for the amount that you need. This just gives you an idea of how much you can probably borrow to purchase a new home.

Preapproval

When you talk with a lending company, you can ask for a preapproval this is a step above prequalifying and gives you some buying power. The lending company after verifying your income and checking your credit score will give you a letter committing to a mortgage loan to a certain amount, as long as you meet all the conditions. Many times the lending company will charge a fee for this service.

Remember, just because you are approved for a certain amount of money, does not necessarily mean you can afford the mortgage payment. You may be approved for a mortgage loan up to $170,000, but you know that the payments would be too much and you could be in trouble down the road. Therefore, it would be best to find a home in your price range instead of trying to live above your means.

Mortgage Brokers

Mortgage Brokers are not lending companies. Mortgage Brokers work on your behalf for a fee. This can save you time and energy if you do not wish to apply for a loan through a bank, credit union or other lending company. Mortgage brokers take all of your pertinent information and send it to several lending companies to get you approved for a loan, they do all the leg work to get you the best interest rates, and work with the lending companies and the real estate agent to find the perfect home for you in your price range.

However, their fees can be around 2 percent of the mortgage loan and more if you do not have good credit. Before working with a mortgage broker be sure to learn if they are reputable. Ask for references and call your state’s banking regulatory agency for their record.

Private mortgage insurance

The norm is that individuals that make low down payments are usually the ones that default on their mortgage loans. Because of this, many lenders require that these individuals purchase private mortgage insurance, if you borrow more than 80 percent of the value of the home. This averages out to paying less than 20 percent down. This private mortgage insurance will pay the lender in case you default on your home mortgage loan.

The private mortgage insurance (PMI) does vary according to the insurance company, which is based on the type of mortgage loan and the loan amount.

If you desire after you have gained 20 percent equity in your home and you have good payment history you can petition the lending company to remove the PMI. On any loans that originated after July 29, 1999 the lender is obligated to remove PMI after you have gained 22 percent equity in your home as long as you have a good payment history.

If you know that you will not default on your loan, you can ask your lending company to increase your interest rate instead of requiring the Private Mortgage Insurance. This will increase your monthly payment usually around the same amount as the monthly PMI payment.

Mortgage interest is usually tax deductible and PMI payments are not. You may also be able to obtain financing with an 80-10-10, which is financing broken down in this manner - 80% first mortgage, 10% second mortgage and 10% down payment. Note that you will pay interest for the entire life of the loan. The PMI can usually be taken off after you have enough equity in your home.

Buydowns

A buydown is when you pay the lending company interest up front in exchange for a lower interest rate on your mortgage loan. This interest is called points can be reduce your interest rate temporarily or permanently.

Some of the buydowns can work on a graduated basis. Determine first if a buydown is worthwhile in your case. The way you can calculate this is by seeing how many months it would take for the money that you save on a buydown would exceed the cost of the points you paid.

Closing costs

Closing costs are the fees and other charges that you have to pay to your lending company when the purchasing of the home is closed. They usually include such things as the appraisal fee, points, credit report fee, loan application/processing fee, recording fee, title search fee, and other expenses. By law, the lending company must give you an estimate of what these closing costs will be after you submit an application to require a mortgage loan.

Normally, the closing costs are around 3% to 7% of the home’s selling price. Some lending companies may allow you to pay the closing costs upfront or even finance them along with the mortgage loan. Beware that companies that offer “no closing costs” loans usually roll these fees into your mortgage loan or charge you a higher interest rate.

Mortgage life insurance

Mortgage life insurance will pay off your mortgage loan in case you die before the entire loan is paid off.

Disability insurance

Disability insurance will cover your mortgage loan payments in the event that you become disabled. This can be very helpful if you want to ensure that you family can still make the mortgage payments and keep the home. There may be more affordable ways to protect your family and your home in case of death or disability. It would be best to talk with an insurance agent for more information.

Down Payments

Unless you have excellent credit, most lending companies will require a down payment. The amount of money you put up for a down payment is taken off the total amount of the loan, so the interest and other fees will not be applied to the down payment amount. The down payment can also lower the amount of the money you need to borrow. Many lending companies require 10% down on most home mortgage loans. With bad or poor credit, you will be asked to put down 20% of the value of the home as a down payment.

Escrow account

An escrow account sometimes referred to as an impound account is set up by the lending company to hold money for escrow items. These items are such things as property taxes and homeowners insurance. You can pay for these through your lending company; they place the money in your escrow account and then pay the appropriate parties on your behalf. Beware that amounts of escrow items can change, so this means that the money that is due in your escrow account also changes. This can increase or decrease the monthly payment you will owe the lending company.

Read about how to apply for a mortgage