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INTRODUCTION TO
MORTGAGES
INTRODUCTION
Once a simple task that meant comparing the
fixed interest rate mortgages of a dozen or so lenders, the mortgage search
today is more like finding your way through a maze. There are dozens of loan
types, hundreds of loan programs and thousands of mortgage brokers, bankers,
lenders, finance companies, credit unions, even stock brokerage firms
originating loans.
Broderick Perkins, a consumer and real
estate journalist for over 25 years, very clearly states the importance of
learning all you can about mortgages, "Because there is so much to learn,
finding a mortgage that fits does not begin with an application, but education.
If there is only one aspect of the home buying transaction you take the time to
learn in detail, make it mortgages."
Examine your finances
First, compare fixed-rate mortgages with
adjustable rate mortgages to determine which type best fits your current
financial lifestyle and, to some extent, your future obligations 15 to 30 years
down the road. Then, learn how much of a mortgage you can afford. Lenders are
apt to qualify you for as much as they are willing to lend, which can be more
than you can really afford. It is up to you to take stock of your income and
expenses, both current and projected, to determine what you can comfortably
manage each month.
Along with your mortgage payment of interest
and principle, remember to add related insurance costs, taxes, homeowner
association dues and any other costs. Also, obtain copies of your credit
reports from all credit reporting agencies. Obtaining your credit report in
advance gives you time to challenge missing information, errors or other
discrepancies. If necessary, you can put a statement on your credit report to
explain any blemishes you cannot cure. Lenders will most likely ask you to
explain problem areas on your credit record anyway, so be prepared. Your
attention to these blemishes will let the lender know you are conscientious
about your finances.
Shopping for lenders and
loans
When you are ready to shop for a loan you
have two basic choices -- direct lenders and mortgage brokers. Direct lenders
have money to lend. They make the final decision on your application. Brokers
are intermediaries who, like you, have many lenders from which to choose.
Because they do work with many lenders, brokers can offer many different rates
and programs while a lender can only offer its own programs and rates. Also, if
you have special financing needs and cannot find a lender with a loan program
to suit them, an experienced broker may be able to ferret out the financing you
need.
Along with shopping the source, you will
also have to shop loan costs, including the interest rate, points (each point
is one percent of the amount you borrow), prepayment penalties, the loan term,
application fees, credit report fee, appraisal costs and a host of other
costs.
Your application
Before you actually apply for a mortgage,
gather documents necessary to prove claims you will make on the application.
The application will ask for information about your job tenure, employment
stability, income, your assets (property, cars, bank accounts and investments)
and your liabilities (auto loans, installment loans, mortgages, credit-card
debt, household expenses and others).
The lender will run a credit check on you,
but you will have to supply supplemental documentation including paycheck
stubs, bank account statements, tax returns, investment earnings reports,
rental agreements, divorce decrees, child support, proof of insurance and other
documentation. If the lender deems you creditworthy, they will hire a
professional appraiser to make sure the value of the home you are about to buy
is commensurate with your loan amount.
Lock it down
During your loan application, lock in your
interest rate, i.e., get a "rate lock." This is extremely important, especially
in a rising mortgage rate market. A rate lock, in writing, guarantees you a
certain interest rate and terms for a given period.
Other items you will want are:
-
Lock in all the costs you can, the
interest rate and points.
-
Set the rate lock ''on application''
rather than ''on approval.'' On approval means you will not know the rate until
the loan application is approved. In a rising market, a lock on approval could
result in higher mortgage rate then a rate locked in on application. (Of
course, in a market of declining mortgage rates, just the opposite might happen
and setting the rate lock on approval could be to your
advantage.)
-
Along with shopping around for the best
mortgage, shop around for both the terms of the lock contract and its cost.
Both can vary.
-
Your lock-in period should be long
enough to allow for settlement, contingencies imposed by the lender or your
purchase contract for your new home and other factors that could delay the
process. Consider all factors that could delay your settlement, including the
time it will take you to provide requested materials about your financial
condition, unanticipated construction delays on a new house and so
forth.
-
Most lock periods range from 15 to 60
days. Anything longer could be cost prohibitive. Ask your lender or broker to
estimate (in writing, if possible) the average time for processing loans. Once
you lock-in a rate, you must make sure that your loan is approved and closed
before the commitment expires. Keep track of your loan application to make sure
you do not delay sending additional documents the lender
requires.
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THE IMPORTANCE OF
PRE-APPROVAL
One of the most important items one needs to
consider when searching for a new home is to get pre-approved (vs.
pre-qualified) for a mortgage and to get the pre-approval in
writing.
When you see a home that you like and you
make your offer to purchase, one of the very first questions that will be asked
by the seller and listing agent is, "Is the buyer pre-approved for a mortgage?"
No sellers want to think that they have a deal for the sale of their home, to
take the home off the market and then to have to put it back on because the
buyer could not get mortgage approval.
There are some key differences between
pre-qualification and pre-approval for a loan that you need to be aware of.
Loan pre-qualification is a simple process. It takes into account very basic
information regarding your financial status and gives you an amount for which
you may qualify. This can be done strictly on a verbal level or electronically
over the Internet. The pre-qualified amount is based solely on the information
you provide. In most markets, pre-qualified buyers usually hold little clout
compared to pre-approved buyers due to the fact that the information given
during the pre-qualification process is not thoroughly investigated and
therefore may be unreliable. Where a pre-approved buyer is actually approved
for a loan of a certain amount, a pre-qualified buyer is only told that they
might be approved for a certain amount.
Pre-approval is a much more involved
process. The lender will take all pertinent information regarding your finances
and perform an extensive check on your current financial status. This will
ultimately give you the exact amount that you will be eligible for (depending
on what type of loan you decide to go with). Being pre-approved lets the seller
know that you have gone through an extensive financial background check, there
should be no unexpected obstacles to buying the home and that you are a ready,
willing and able buyer. You can see how being pre-approved would be more
attractive to a seller than just being pre-qualified.
One thing about being pre-approved! This
does not guarantee the mortgage. All pre-approvals are contingent upon the
appraisal of the house meeting the requirements of the lending institution. If
the house has been properly priced to start with, this is usually not a
problem. Your REALTOR should include wording in your Offer to Purchase that
will protect you if the home does not appraise at the amount you have
offered.
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TYPES OF
MORTGAGES
When considering the many loan programs you
have to choose from, you may find yourself slightly overwhelmed. This section
describes the various programs available and helps you decide which program is
the best one for you based on your unique situation and the current market
conditions.
30-Year Fixed Rate
Mortgage
This is the most popular and conventional
loan program. Your monthly payment is calculated based on the initial interest
rate and will never change for the life of the loan.
The 30-Year Fixed Rate Mortgage is
considered the most conservative because there is no risk that changing
interest rates or market conditions will affect your monthly
payment.
This loan is probably the right one for you
if you do not plan to move or refinance for at least 10 years and you expect
interest rates to increase over this time frame or you just like the comfort of
knowing that your payment will not change no matter what.
This loan may also be right for you if you
do not expect your income to increase significantly over the next several
years.
20-Year Fixed Rate
Mortgage
Like the 30-Year Fixed Rate Mortgage, this
program guarantees that your payment never changes over the life of your loan.
Since you are committing to pay off your loan over a shorter period, your
monthly payment will be significantly higher than for a 30-Year Fixed Rate
Mortgage of the same size.
This loan may be right for you if you are
interested in paying off your loan more quickly.
This loan may also be appropriate if you
expect to stay in the home in your retirement and you will be retiring in fewer
than 30 years and do not want any mortgage debt at that time.
15-Year Fixed Rate
Mortgage
This is by far the most aggressive of the
Fixed Rate Mortgage options. This loan is paid off in only 15 years, resulting
in a much higher monthly payment as compared to a 30- or 20-Year Fixed Rate
Mortgage of the same size.
This program is for those who can afford the
higher monthly payment and are willing to pay more over a shorter period of
time with the goal of owning the home without debt as soon as
possible.
This loan also could be for you if you are
very aggressive about owning your home sooner or are close to retirement and
wish to remain in your home and start retirement without any mortgage
debt.
1-Year Adjustable Rate
Mortgage
This is a 30-year loan in which the rate
(and therefore your monthly payment) changes every 12 months on the anniversary
of your loan.
This loan is considered quite risky because
your payment may change significantly from year to year. In exchange for taking
this risk, the borrower is rewarded with an initial rate that is significantly
below market rates for 30-, 20- or 15-Year Fixed Rate Mortgages. Even after the
loan adjusts, your new rates will typically be below rates being offered to new
borrowers for such fixed rate program. In periods of rising interest rates, it
is possible that you will ultimately pay much more for a 1-Year Adjustable than
a 30-, 20- or 15-Year Fixed Rate Mortgage.
This loan may be right for you if you need
to qualify for the largest loan possible using your current income and you are
confident that your income will increase significantly in the short term to
cover any anticipated increases in rates over the next few years. Although this
loan comes with adjustment rate caps (usually 2% limit per adjustment and 6%
over the lifetime of your loan), you should assume that your first adjustment
typically results in an increase in your interest rate.
This loan may also be right for you if you
can afford any increases in your interest rate and are willing to take a chance
on changes in interest rate in exchange for a lower initial monthly payment
and, hopefully, low payments in subsequent years.
3-Year Adjustable Rate
Mortgage
This is a 30-year loan in which the rate
(and therefore your monthly payment) changes every three years. Your new rate
is calculated based on a predetermined formula.
This loan, while risky, is safer than the
1-Year Adjustable Rate Mortgage only because it does not adjust as
frequently.
This loan may be right for you if you are
willing to take on the risk of higher interest rates every three years in
exchange for a lower initial rate that cannot change for three
years.
This loan could be right for you if you
expect to move or refinance in about three years.
This loan may also be right for you if you
wish to qualify for more money now based on your current income and you expect
your income to increase over the next three years to cover any adjustment in
your monthly payments.
Finally, this loan may be right for you if
you plan to stay in your home longer than three years and your income will be
able to absorb any increases in your monthly payment.
5-Year Adjustable Rate
Mortgage
This is a 30-year loan in which the rate
(and therefore your monthly payment) changes every five years.
You might choose this program if you expect
to stay in your current home for less than five years.
3/1 Adjustable Rate
Mortgage
This 30-year loan offers you a fixed
interest rate for the first three years and then turns into a 1-Year Adjustable
Rate Mortgage for the remaining 27 years of the loan. This loan has recently
become quite popular by those seeking to minimize monthly payments while
accepting a certain amount of risk.
This loan may be right for you if you wish
to maximize the amount of loan you qualify for and expect to remain in this
home for less than three years.
This loan is generally the least expensive
way to fix your monthly payment for the first three years of your loan. After
that, this loan is like a 1-Year ARM with all of its risks and
rewards.
5/1 Adjustable Rate
Mortgage
This 30-year loan offers you a fixed
interest rate for the first five years and then turns into a 1-Year Adjustable
Rate Mortgage for the remaining 25 years of the loan. This loan has a longer
initial fixed period than the 3/1 Adjustable.
This loan may be for you if you fit the
profile for the 3/1 Adjustable Mortgage but wish to trade off a higher initial
rate for the security of a longer initial fixed period.
This loan may be right for you if you wish
to maximize the amount of loan you qualify for and expect to remain in this
home for less than five years.
If you are certain that you will only remain
in your home for less than the initial five years, you might want to consider
the 5/25 Balloon Mortgage instead.
7/1 Adjustable Rate
Mortgage
This 30-year loan offers a fixed interest
rate for the first seven years and then turns into a 1-Year Adjustable Rate
Mortgage for the remaining 23 years of the loan.
This loan could be right for you if you plan
to remain in this home for at least the initial seven years but consider it
likely that you may wish to remain longer and you know that your income will be
able to absorb the potentially higher monthly mortgage payments resulting from
each yearly adjustment.
If you are certain you will only remain in
this home for less than the initial seven years, you might want to consider the
7/23 Balloon Mortgage instead.
10/1 Adjustable Rate
Mortgage
This 30-year loan offers a fixed interest
rate for the first 10 years and then turns into a 1-Year Adjustable Rate
Mortgage for the remaining 20 years of the loan.
This loan may be right for you if you plan
to remain in this home for at least the initial 10 years, but consider it
likely that you may wish to remain longer and you know that your income will be
able to absorb the potentially higher monthly mortgage payments resulting from
each yearly adjustment.
5/25 Balloon Mortgage
Although your monthly payment is calculated
as if you will pay off the loan over 30 years, this loan requires that you
completely pay your remaining balance (a significant percentage of your
original loan amount) in a single payment after five years.
This loan may be suitable for those who will
sell their home or plan to refinance on or before the balloon payment
date.
This loan could be suitable for those who
know they will relocate within 5 years or others who are certain they will not
stay in their new home beyond the five-year period.
Unlike the 5-Year Adjustable and 5/1
Adjustable, both of which also offer a fixed rate for five years, the borrower
often enjoys a lower interest rate for this program because the borrower is not
obliging the lender to extend credit beyond the initial fixed
period.
Note: Some balloon programs offer the
borrower a Conditional Right to Re-set which effectively provides for an
extension beyond the initial fixed period.
7/23 Balloon Mortgage
This is a longer version of the 5/25 Balloon
Mortgage. Your monthly payment is calculated based on a 30-year amortization
schedule, but you are required to pay off your outstanding balance after seven
years.
This loan may be for you if you are certain
you will be moving or refinancing on or before the seven year deadline and you
wish to have the security of a fixed payment amount during this initial
period.
Note: Some balloon programs offer the
borrower a Conditional Right to Re-set which effectively provides for an
extension beyond the initial fixed period.
5/25 Two-Step Mortgage
This 30-year mortgage offers an initial
5-year fixed rate. After this initial period expires, the rate is adjusted once
for the remaining 25 years of the loan.
You might want to consider this loan if you
expect to remain in the home for at least five years, but consider it a
possibility that you could remain much longer. Since there is uncertainty about
how much your payment will change after year five, you should only consider
this program if you expect to be able to afford your post-adjustment monthly
payment.
If you are certain that you will be moving
or refinancing within five years, you could consider the 5/25 Balloon program,
but only if there is a significant monthly savings.
Note: This Loan is not known to be available
in a Jumbo program.
7/23 Two-Step Mortgage
This 30-year mortgage offers an initial
7-year fixed rate. After this initial period expires, the rate is adjusted once
for the remaining 23 years of the loan.
You might consider this loan if you expect
to remain in the home for at least seven years, but consider it a possibility
that you could remain much longer and you are comfortable with the prospect of
a future adjustment.
If you are certain that you will be moving
or refinancing within seven years, you could consider the 7/23 Balloon program,
but only if there is a significant monthly savings.
Note: This Loan is not known to be available
in a Jumbo program.
2/28 Adjustable Rate
Mortgage
This program is a 30-year adjustable
program, except that the first adjustment does not occur until two years into
the loan. At this point, adjustments are typically made every six months. Ask
your lender about the frequency of adjustments, since some 2/28 loans adjust
every year.
This program is primarily offered for
consumers with less-than-perfect credit. The intention of this loan is to allow
the borrower two years to improve his or her credit rating, at which point the
borrower may refinance at a better rate.
3/27 Adjustable Rate
Mortgage
This program is like the 2/28 Adjustable
Rate Mortgage, except that the initial fixed period is three years instead of
two years.
Conforming or Jumbo?
Conforming refers to loans up to a set
amount. Loans over that amount are known as Jumbo loans. This amount, currently
$300,600, is set by the Federal National Mortgage Association (Fannie
Mae) and is reviewed on a regular basis and then usually adjusted
higher.
For most people, the amount of the loan they
are seeking is already determined by the amount of down payment they can afford
and the sale price of the home (or existing loan balance in the case of a
refinance). However, for those borrowers whose proposed loan amount is near the
federally set limit or those who have significant flexibility in determining
their down payment, should consider keeping their loan balance below this limit
so that they may secure a Conforming loan. Conforming loans are most often
offered at lower rates than their Jumbo counterpart.
Refinancing
Once you have purchased a mortgage, you are
not committed to that mortgage for its entire life span or until you move,
whichever comes first. At any time (with few exceptions imposed by some lenders
unless a pre-payment fee is paid - try to avoid a mortgage with such a fee) you
can refinance your loan. In doing so, you will effectively be buying a new
mortgage. Therefore you will have to go through the same application process
that you had to endure with your original mortgage and you will have to pay
similar mortgage closing fees. However, if the new mortgage results in lower
monthly payments or the security of a fixed rate mortgage, then you might want
to go through the entire process again.
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IS AN
ADJUSTABLE RATE MORTGAGE RIGHT FOR YOU?
As explained in the previous section, an
adjustable rate mortgage (ARM) is one in which the rate changes (the
adjustment) on a specified schedule after an initial "fixed" period.
An ARM is considered riskier than a fixed
rate mortgage because your on-going payments may change significantly after the
initial fixed period. In exchange for taking this risk, you are rewarded with
an initial rate that is significantly below market rates for 30-, 20- or
15-Year Fixed Rate Mortgages. The more frequent the rate adjustments through
the life of the loan, the lower the initial rate. Even after the loan adjusts,
new rates will typically be below rates being offered to new borrowers for the
30-, 20- or 15-Year Fixed Rate program. Obviously, it's best to have an ARM
when interest rates are predicted to fall (not rise) because in periods of
rising interest rates, it is possible that you will ultimately pay much more
for an ARM than for a 30-, 20- or 15-Year Fixed Rate Mortgage.
Although somewhat riskier than a fixed rate
mortgage, an ARM may benefit you if you have certain needs or find yourself in
certain circumstances. In other circumstances, you may be better off with a
fixed rate or other type of mortgage. Examine your financial and life situation
with the help of your loan officer or financial advisor.
An ARM can give a short-term "boost" to
your finances
Having a low initial fixed rate can free up
some money early in your loan term.
For the purpose of illustration, we will
look at a 1-Year ARM. Remember, this is a 30-year loan in which the rate (and
therefore your monthly payment) changes every 12 months on the anniversary of
your loan.
We will assume a 30-year fixed rate with
zero points and a rate of 7.625 percent compared to a 1-Year ARM with zero
points and an initial rate of 5.625 percent. (These rates are not necessarily
representative of today's actual rates for such programs.)
On a $240,000 loan amount, the 30-year fixed
rate would yield a monthly payment of $1,698.71. The 1-Year ARM would yield a
monthly payment of $1,381.58. This is a difference of $31713 per month, or
$3,805.56 over the next year.
An ARM can allow you to qualify for
"more house"
Obtaining an ARM can allow you to qualify
for a higher loan amount and therefore a more valuable home.
Many people with exceptionally large
mortgages get 1-Year ARMs and refinance them every year. The low rate allows
them to buy a costlier home yet pay the lowest mortgage payment possible. The
down side is that there are costs associated with refinancing. So before you
use this option, look at all the costs and do the math yourself or ask for help
from your loan officer or broker.
An ARM could be beneficial depending on
your future plans
What are the factors that could cause you to
move or upgrade in the next few years? Why obtain a higher-rate 30-year fixed
rate mortgage if a job transfer is likely? An ARM with a lower initial rate
could be a better (and cheaper) way to go.
If you know that you are only planning on
living in a property for a short period of time (1-10 years) then the benefits
of getting an adjustable rate mortgage are enhanced. You can enjoy the interest
and payment benefits with less of the risk. Ask your lender or broker to assist
you with the numbers.
If you do plan to refinance or sell soon
(and therefore pay off the loan), read the loan documents carefully. Some
contracts stipulate a penalty for paying off the loan early. As stated
previously, try to avoid such mortgages.
What affects the amount of the
adjustment?
The amount of the rate change (or
adjustment) is determined by a mathematical formula based on a particular
index, the most common being the 1-Year U.S. Treasury Bill.
Your lender does not control the index so it
is safe to assume that your adjustment will be fairly determined (although you
should always verify your new rate by comparing with published
numbers).
All adjustable rate mortgages have a
lifetime rate cap (ceiling), which limits the amount the interest rate of the
loan can increase over the life of your loan. Most adjustable rate mortgages
also have a periodic rate cap, which limits the amount of rate increase for
each adjustment.
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POINTS
Points are one type of fee paid at closing
by you to your mortgage lender. There are two types of points; Origination
Points and Discount Points. Each point equals 1% of your loan amount. For
example, one point on a $100,000 loan would cost $1,000.
What is the difference between
Origination Points and Discount Points?
They differ in where they are applied.
Origination points are charged to recover some costs of the loan origination
process. Depending on the lending institution, the Origination Point(s) may be
negotiable in whole or in part.
Discount Points are used to "buy" your
interest rate lower. This is known as a rate "buy-down." A general rule of
thumb is that one full Discount Point will lower your fixed interest rate
0.250% or your adjustable rate 0.375%. These points lower the interest rate for
the entire term of the loan.
Is there an advantage to paying one type
over the other?
Actually, there may be, depending on your
tax situation. There is no tax advantage to paying an Origination Point instead
of a Discount Point. However, the Discount Point(s) that you pay may be tax
deductible. Unfortunately, Origination Points are not usually tax
deductible.
The Discount Points are usually deducted
under Schedule "A" of your IRS 1040 tax return. If you do not itemize your
deductions (by taking the Standard Deduction) for other tax-related reasons,
you may not be able to deduct the cost of the points when filing your tax
returns. Please consult your tax adviser to determine if you qualify for these
deductions.
Why do some lenders charge points but
others don't?
It is up to the individual lender whether or
not they charge Origination Point(s). Almost every lender's pricing includes
different levels of Discount Points. They may offer options with no points, one
point, two points and maybe even more. The more points that you are willing to
pay, the lower the interest rate the lender will offer you. It is common for
each option to include fractions of points (for example, 1.25
points).
Most lenders advertise their zero point
interest rates while others list their lowest possible rate with several points
attached.
When comparison-shopping for the best
mortgage, make sure that you know all fees that are being charged. A lender
offering 7.000% + one Discount point but zero Origination Points may be a
better deal than the lender offering the same rate with zero Discount Points
but 1.500 Origination Points. Both types of points are calculated using the
same formula. Before making a final decision, look over all details of the
offer, not just the interest rate.
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PRIVATE MORTGAGE INSURANCE
(PMI)
Private Mortgage Insurance (PMI) is required
on all loan transactions where the loan-to-value ratio is 80% or greater. This
means that if you bought your house for $200,000 and had a down payment of less
than $40,000, you pay PMI.
PMI insures the lender - not you - against
your default on the loan. Because statistics show that borrowers who put down
less than 20% are more likely to default on the loan, lenders require PMI so
that they will recoup their investment in case of default. Under normal
circumstances, the lender will not make a loan with less than a 20% down
payment. However, they are willing to take the risk as long as you pay
PMI.
How do you get rid of
PMI?
PMI is of concern to the borrower because,
unlike mortgage interest, PMI is not tax deductible. You pay it and you never
see a dime of it again. For this reason, you will want to get rid of it as soon
as possible.
When can you stop paying PMI? By law, the
lender cannot force you to keep PMI once the loan-to-value ratio has gone below
80%. However, your phone will not ring the moment you have paid the balance
below the level requiring PMI. If you think you can get rid of PMI, what you
want to do first is to take a look at your most recent mortgage statement and
divide the remaining principal balance by the original purchase price of your
home. If that number is below 80%, then call the lender and find out their
procedure for removing PMI.
If you have not been paying on the loan for
very long, you still may qualify for having PMI removed by virtue of
appreciation. If this is allowed by your lender without you having to refinance
your mortgage, then your lender probably will require a full appraisal, which
will you will be required to pay. But, if your new loan-to-value ration is
below 80%, you will quickly recover this cost by not having to pay the
PMI.
Another way to get rid of PMI earlier than
normal, is to pay a little extra each month toward the principal to reduce your
loan balance.
How can you avoid paying
PMI?
There are ways of both avoiding PMI and
achieving a smaller than 20% down payment.
Many lenders offer a loan called an
"80/10/10." Instead of one loan, you get two. You will have a first mortgage of
80% of the home's value, a second mortgage of 10% of the home's value and you
will make a 10% down payment. Some lenders may even offer an
80/15/5.
This type of loan may seem bizarre, since
you are still borrowing the same amount of money, but the lender in the "first
position" is only on the hook for 80%, which is less of a risk than a higher
amount. You get the small down payment and the tax-deductible interest. In
addition, the total monthly payments are often smaller than one larger loan
with PMI.
The other way out is to get a loan that
builds the PMI into the interest rate. In this case, you agree to pay a higher
interest rate in exchange for the lender loaning you more money than they
normally would. It can be a nice compromise, because the interest is still tax
deductible and it is simpler than doing two loan transactions. However, there
is a downside to this approach and that is that you will be paying for PMI by
virtue of the higher interest rate for as long as you have the
mortgage.
The key here is comparison. Ask your loan
officer or broker to run some numbers for you on an 80/10/10 and on a loan with
built-in PMI. Then see which one will cost less.
Note: These principles apply only to
conventional loans. FHA loans have a Mortgage Insurance Premium (MIP), which is
required for the life of the loan.
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YOUR CREDIT
REPORT
Like it or not, in order to obtain a
mortgage loan, you will have to expose your credit record. You have a credit
record on file at a credit bureau if you have ever applied for a credit or
charge account, a personal loan, insurance or a job.
Do not panic if it shows something
unexpected. Small problems and errors can be cleared up fairly easily. More
serious marks like bankruptcy, however, could derail your hopes for a
loan.
Before applying for a mortgage, order and
review your credit report. Reviewing your report and taking care of any errors
or discrepancies before you apply for a mortgage can smooth the way.
What's in your report?
Every time you obtain credit from a bank, a
department store or other lender, the information is placed in your credit
report. Your report indicates the date opened, the lender, your account number,
the opening balance, credit limit and monthly payment. The report also lists
the number of times you have been late making a payment for at least 30, 60, 90
or more days. Even late payments on utility bills will appear in your credit
report. It also indicates whether you have been sued, arrested or have filed
for bankruptcy.
The magic number
Your credit score is a statistical analysis
of the likelihood that you will pay back your loan on time. Drawn from
variables in your credit report, your score is a number between 400 and 900.
You want a score of 620 or higher. If you score 680 or higher, you are
considered a premium borrower, and you are eligible for lower rates and better
terms. On the other hand, a score below 620 does not necessarily close the door
on a mortgage loan.
Red flags
-
Certain marks may cause a lender to
decline your loan application. Lenders do not want to see these on your
report;
-
Bills turned over to
collection,
-
Late payments (These typically only show
up on your report if your payment is more than 30 days late,)
-
Recent or numerous credit inquiries (An
inquiry shows up on your report every time you apply for credit. Lenders do
realize that some inquiries are a result of you shopping around for the best
mortgage rate from different lenders. Therefore, they often overlook a block of
inquiries within a given period. Let your potential lender know if this applies
to you. Inquiries you make yourself or an inquiry that is part of a background
check for employment purposes are not reported to potential mortgage
lenders.)
-
Overextended credit (If you have credit
accounts that you do not use, cancel them. Even unused accounts with a zero
balance show up on your credit report and a lender will look at them as a
source of potential debt for you,)
-
Bankruptcy (which may stay on your
record for 10 years,)
-
Liens,
-
Paycheck garnishments.
Reversing questionable
marks
Simple errors are usually easy to rectify.
For example, your report may state that your $50.00 minimum monthly payment on
a particular credit card is actually $5000.00-a simple mistake of too many
zeroes.
If you find a questionable bad mark in your
credit report, ask the credit bureau in writing to re-investigate the mark. The
bureau will usually provide a form for this purpose. After you submit the form,
the bureau has 30 days to investigate your claim and change your record. If you
are correct or if the creditor who gave you the bad mark can no longer verify
the information, the credit bureau must remove the mark from your
report.
If the information that caused the bad mark
is correct, check the date. With few exceptions, the bureau should clear items
that have been on your record for more than seven years.
How to obtain your report
Request copies of your credit report from
any of the three national companies listed below that lenders use. You may be
charged a fee for the report.
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THE FAIR CREDIT
REPORTING ACT
The Fair Credit Reporting Act (FCRA) is the
federal law regulating credit-reporting companies like Experian, Equifax and
Trans Union. It has been in effect since 1971. A revised FCRA became effective
October 1, 1997. This law protects consumers' rights, such as the right to
review and contest information in their credit reports. It specifically defines
who can access the information in a credit report and how you are notified of
this activity. It also ensures that consumer-reporting agencies (CRAs,) such as
credit bureaus, furnish correct and complete information to businesses to use
when evaluating your application.
Your rights under the Fair Credit Reporting
Act are:
-
You have the right to receive a copy of
your credit report. The copy of your report must contain all of the information
in your file at the time of your request.
-
You have the right to know the name of
anyone who received your credit report in the last year for most purposes or in
the last two years for employment purposes.
-
Any company that denies your application
must supply the name and address of the CRA they contacted provided the denial
was based on information given by the CRA.
-
You have the right to a free copy of
your credit report when your application is denied because of information
supplied by the CRA. Your request must be made within 60 days of receiving your
denial notice.
-
If you contest the completeness or
accuracy of information in your report, you should file a dispute with the CRA
and with the company that furnished the information to the CRA. Both the CRA
and the furnisher of information are legally obligated to reinvestigate your
dispute.
-
You have a right to add a summary
explanation to your credit report if your dispute is not resolved to your
satisfaction.
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CURRENT MORTGAGE
RATES
Mortgage rates differ in every region of the
country based on the banks licensed in that region. A good source for current
mortgage rates and information in Fairfield County and New Haven County is "The
Mortgage Journal" at
The Mortgage
Journal.
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MORTGAGE
CALCULATORS
One of the most difficult aspects in
shopping for a mortgage is comparing one loan versus another. There is more
involved than just comparing rates. Other factors that can enter the picture
are the term of the loan, points, a higher than 80% loan to value ratio
resulting in the borrower having to pay private mortgage insurance (PMI),
etc.
You might also be interested in what effect
it would have on your loan if starting in year two, you were to make an extra
mortgage payment a year. Other questions you might want to ask yourself are;
How many years/months would it shorten the time required to pay off a loan if I
were to change to a bi-weekly payment schedule? or How much additional
principal do I have to pay each month starting in year three in order to pay
off my 30-Year Fixed Rate Mortgage in 12 years? or How long will it take before
I can get rid of PMI?
In order to do loan comparisons and to
answer questions such as the above, you should go to
Compare
Loans.
This is an excellent web site, yet it can
seem overwhelming at first. When you first look at it, start by
readying/studying the following sections;
After reading/studying the above, doing
actual loan comparisons and/or answering mortgage related questions such as
posed above should be much easier.
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THE MORTGAGE
APPLICATION PROCESS
When you apply for a mortgage loan for your
new home, you will be required to fill out a form known as the Uniform
Residential Loan Application (Form 1003.) This mandated form is from the
Federal National Mortgage Association (Fannie Mae,) an agency within the U.S.
Department of Housing and Urban Development (HUD.)
Before going to your mortgage broker or
direct lender, you should familiarize yourself with Form 1003 and you should
have the information that you will need in order to answer all questions
therein. Having to go back home to get this information and then returning
another day will cause an unwanted delay in your mortgage application being
submitted and processed.
A copy of the Uniform Residential Loan
Application can be found at;
(Note: These forms are in PDF format. See
"PDF Format Note" at the end of "Introduction to Mortgages.")
In addition to the Uniform Residential Loan
Application, other documents you will need when applying for a mortgage
include, but are not necessarily limited to;
-
Three (3) months statements from each
bank or institution showing sufficient funds to close (all
pages,)
-
Explanation of any large, apparently one
time only, bank deposits shown in the above statements,
-
Most current pay stubs to show 30 days
income,
-
Tax Returns (all pages) and W-2s for the
past two years,
-
Copy of purchase contract, fully signed
copy of the 1% binder check (both sides) or letter from broker or attorney
stating funds being held in escrow,
-
If you are selling a home in order to
purchase your new home, then a copy of sale's contract on current home or HUD-1
closing statement,
-
If you are currently occupying rental
property, copies of last 12 months cancelled checks (front and back) verifying
rent payments,
-
If the property in question is a
condominium, then a copy of condominium documents; e.g., master deed, by-laws,
declaration of trust and completed condominium questionnaire,
-
If self-employed, you will need at least
three (3) business references,
-
If self-employed, you will need a
current profit and loss statement,
-
Provide company address and name of
person to verify employment - need for all employers for the past two
years,
-
Name and address of your attorney
and
-
If on the Loan Application form you list
an investment property(ies), provide a copy of the lease(s).
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THE HUD-1 SETTLEMENT
STATEMENT
When you decide to buy a new home, there are
three distinct stages involved in this process. There is the home buying stage,
the home financing stage and the settlement or closing stage. The end result of
this latter stage is when legal title to the property is transferred to
you.
During the home buying stage, prospective
buyers are protected from all forms of housing discrimination by numerous
federal, state and local laws. On the federal side, the primary governing laws
are the Civil Rights Act of 1866, Executive Order No. 11063 issued in 1962, the
Civil Rights Act of 1964, Title VIII of the Civil Rights Act of 1968 (the
Federal Fair Housing Act), the Housing and Community Development Act of 1974
and the Fair Housing Amendments Act of 1988.
During the home financing stage, there also
are federal laws that provide you with protection during the processing of your
loan. Such laws are the Equal Credit Opportunity Act, the Fair Housing Act and
the Fair Credit Reporting Act.
The primary federal law protecting your
rights during the settlement stage is the Real Estate Settlement Procedures Act
(RESPA.)
During the settlement stage, you the
homebuyer will be required to pay for various items and services associated
with the settlement process. These items and services include, but are not
limited to, attorney fees, title insurance fees, title search fees, loan
origination, processing and underwriting fees, appraisal fees, credit report
fees, points (if applicable,) private mortgage insurance (if applicable,)
hazard insurance (homeowner's insurance), escrow amounts for your property
taxes and hazard insurance as well as pro-rated amounts already paid by the
current homeowner such as property taxes. Since mortgage interest is paid in
arrears and since your first mortgage payment will not be due until the month
following the month of your closing, you will be required to pay the pro-rated
interest on your mortgage covering the days from the date of your closing to
the end of the month you closed.
Collectively, all such monies paid by you
during the settlement process are known as your "Closing Costs."
In addition to making it illegal for anyone
to pay or receive payment (or any other form of "kickback") for the referral of
settlement services, there are two other key provisions of RESPA.
The first of the key provision
is;
Within three business days of applying for a
mortgage, the lender or mortgage broker (whichever took your application) must
provide you with a Good Faith Estimate of all Closing Costs. These estimated
costs are itemized for you on a form known as HUD-1 Settlement Statement
(Statement.)
Remember this is only an estimate of such
costs, not a guarantee. As such, it is a good idea to keep this estimated
Statement and to compare it to the final HUD-1 Settlement Statement when you
receive it at or before your closing. Ask questions if you see significant
differences between the estimated and the final Statement.
At the closing you will be required to pay
for all Closing Costs, usually by a check made out to your settlement agent,
i.e., your attorney. S/he in turn will disburse the amounts owed to all
relevant parties.
This leads to the second key provision
of RESPA as referred to above:
At least one business day prior to closing,
you have the right to examine the final, complete, itemized HUD-1 Settlement
Statement.
Your settlement agent will have prepared the
Statement for you. At the closing, your settlement agent is required to give
you a copy of this final HUD-1 Settlement Statement.
The HUD-1 Settlement Statement can be
confusing, especially if you are truly paying attention to it for the first
time at your closing. As such, when you first receive it as an estimate from
your lender or mortgage broker, you should carefully examine the Statement and
become knowledgeable on all the information therein.
Another important element is to ask your
settlement agent for a copy of the final HUD-1 Settlement Statement at least
one business day prior to your closing so that you are familiar with the
settlements therein, are not surprised at the closing by any of the settlement
amounts and are prepared to ask questions about any of the settlement amounts
you do not understand.
HUD has prepared an excellent booklet
entitled "Buying Your Home, Settlement Costs and Helpful Information." In this
booklet there is information on all three stages of buying a home. In addition,
there is a detailed explanation of all line items in the HUD-1 Settlement
Statement as well as a copy of the Statement.
This booklet can be found on the web at
Buying
Your Home, Settlement Costs and Helpful Information.
(Note: This booklet is in PDF format. See
"PDF Format Note" at the end of "Introduction to Mortgages.")
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SOURCES OF ADDITIONAL
MORTGAGE INFORMATION
It is impossible in one write-up to even
scratch the surface of Mortgages. Therefore you should seek out additional
places where you can learn more about this important component of buying a
home.
Addition information can be found on the
Internet by going to Google and searching on
the word "mortgages" or by going to your local book store and buying a book
such as Mortgage for Dummies. Most major newspapers have a weekly real
estate section where one can find valuable information and current mortgage
rates.
After reading about and understanding the
basics of mortgages, you then want to sit down and talk to your mortgage broker
or direct lender. They are the ones who can examine your specific needs and
qualifications and can then review with you those programs and rates that are
best for you. They will also be able to determine the amount of the mortgage
that you can qualify for and receive and provide you with a letter with the
amount therein.
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GLOSSARY OF MORTGAGE
TERMS
The world of mortgages is filled with its
own vocabulary. The following "Glossary of Mortgage Terms" from Fannie Mae
(Federal National Mortgage Association) is a valuable resource when it comes to
coping with this vocabulary:
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CONCLUSION
When purchasing a home, most of us have to
obtain a mortgage. Although the process of obtaining a mortgage is not as
simple as a "walk-in-the-park," the good news is that most folks are able to
qualify and receive one. Just look around at all the homes that you can see and
the homeowners therein.
By learning as much as you can about
mortgages and the mortgage process and by getting yourself pre-approved before
starting to look for a new home, you will have taken the most important first
two steps in becoming a new homeowner.
If you have any questions and wish to ask
them of us, please call at 203-268-1118, x322 or 203-385-0090 or email us at
TeamMori@TeamMori.com. We will do our
best to help you.
Happy mortgage and home hunting!
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CREDITS
Much of the information contained in the
above "Introduction to Mortgages" is from the following web sites;
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8 BIG MORTGAGE
MISTAKES AND HOW TO AVOID THEM
"You can borrow too much or prepare too
little You can misjudge terms or over estimate your credit. With so much as
stake, it's no wonder so much can go wrong." By Liz Pulliam Weston, MSN Money,
8/22/02
Applying for a mortgage can be a daunting
experience.
It's not enough that you're agreeing to take
on the biggest debt of your life, one that represents two to three times your
annual income. You're also confronted with piles of paperwork, flurries of fees
and a tidal wave of terms, from amortization to title insurance, whose meaning
is fuzzy at best.
"Whether it's a professor at Stanford or a
ditch digger," said San Francisco mortgage broker Leon Huntting, "most people
don't understand the loan process."
In this confusing and pressure-filled
atmosphere, it's easy to make some mistakes. Here are some common ones that
lenders and mortgage brokers see, and what you can do to prevent
them.
Not fixing your credit
Mortgage brokers say they're confounded at
the number of buyers who apply for a mortgage with their fingers crossed,
hoping their credit will allow them to qualify for a loan.
Before you even think about applying for a
mortgage, obtain copies of your credit report and your FICO credit score. Your
FICO score is the three-digit number that's used in 75% of mortgage-lending
decisions.
Doing this at least six months in advance
should give you plenty of time to challenge any errors on your report and
ensure that they're removed by the time you're ready to apply for a loan. You
can also see the legitimate factors that are hurting your score and do
something about them, such as paying off an overdue bill or paying down credit
card debt.
Not looking for first-time home buyers'
programs
These programs, typically sponsored by
state, county or city governments, often offer better interest rates and terms
than you'll find among private lenders, said mortgage consultant Diane St.
James. Some are tailored for people with damaged credit, while most can help
people with little saved for a down payment.
Some of these resources are listed on St.
James' educational Web site, ABC Mortgage Consulting. You can also call the
housing agencies for your state, county and city to see what they
offer.
Not getting pre-approved for a
loan
Many first-time borrowers confuse being
"pre-qualified" with being "pre-approved." Pre-qualification is a pretty casual
process, where a lender tells you how much money you probably can borrow based
on how much money you make, how much debt you already have and how much cash
you have for the down payment.
Getting pre-approval, by contrast, is a much
more rigorous process and involves actually applying for a loan. You typically
submit tax returns, pay stubs and other information. The lender verifies the
information and checks your credit. If all goes well, the lender agrees in
writing to make the loan.
In a hot or even warm real estate market,
the house hunter who is only pre-qualified is a cooked goose. Home sellers and
their agents give much more weight to offers being made by buyers who already
have a loan lined up.
Borrowing too much money
Many people take out the biggest loan they
possibly can, figuring that their incomes will eventually increase enough to
make the payments comfortable. But few first-time buyers have any clear idea of
how expensive homeownership can be. Not only will you shell out more for
mortgage payments than you probably did for rent, but you'll also need to cover
property taxes and homeowners insurance, as well as higher bills for utilities,
maintenance and repairs than you faced as a renter.
Lenders are perfectly willing to let you
overextend, knowing that you'll probably forgo vacations, retirement savings
and new clothes for the kids rather than default on your mortgage.
"Mortgage money … is way too easy to
get," said Ted Grose, president of the California Association of Mortgage
Brokers. "People tend to overbuy … and that can really stress family life.
It's also a formula for foreclosure."
Instead of going to the edge of
affordability, consider limiting your housing costs -- mortgage payments,
property taxes and homeowners insurance -- to 25% or so of your gross income.
That's a much more sustainable level for most people, financial planners say,
than the 33% lenders are typically willing to give you.
Not shopping around for rates and
terms
Mortgage broker Allen Jackson of Bristol
Home Loans in Bellflower, Calif., sees too many borrowers with decent credit
getting stuck with loans meant for people with poor credit. So-called
"subprime" loans are often more profitable, so less ethical mortgage brokers
may push them.
If the borrower doesn't know what the
prevailing interest rates are for someone with their credit standing, Jackson
said, they can easily pay thousands of dollars more than they need
to.
Even people with a few dings on their credit
can often qualify for better loans than they're typically offered, said Grose
of 1st Mortgage Advisors in Los Angeles. He believes most of the people being
shunted into government loan programs, such as Federal Housing Administration
(FHA) loans, would pay less if they used mortgages now being offered by
private-sector lenders, such as Wells Fargo.
"The FHA loans are more profitable for the
broker and they don't have to disclose their fees," as they do with many other
mortgage loans, Grose said. "My mortgage broker buddies are going to send me
hate mail, but it's true."
Paying junk fees
Lenders can boost their profits by adding on
a variety of fees. Some may be legitimate, some may be inflated and others may
be pure fluff. Lenders may charge for "document preparation," for example, when
all that involves typically is having a computer spit out a form. Or they may
charge $150 for a credit check that cost them $15.
The time to challenge junk fees is not when
you're about to sign the loan papers. Use a mortgage broker or call a number of
lenders to compare their loans. Ask about the interest rate, the "points"
charged to get that rate (each point is 1% of the total loan amount) and any
other fees the lender charges. Then you can compare terms.
Once you've selected a lender, you'll be
given a good-faith estimate of closing costs, which should include any fees
being charged. Ask about each fee, and try to negotiate down the ones that seem
excessive.
If the lender won't negotiate, "take that
estimate to someone else," St. James said. "I'll bet they can they can beat
it."
Unfortunately, this doesn't absolutely
guarantee you won't face junk fees when it comes time to sign the loan. Many
borrowers complain that they still face higher costs than were originally
estimated, and so far the federal government has done little to prevent the
practice. You can try challenging junk fees at this point, but most likely
you'll have to bite the bullet and pay the fees to get your loan.
Not planning for closing
costs
The day you're scheduled to get your loan,
known as closing, you'll also be expected to write a check for a number of
expenses, which typically include attorney's fees, taxes, title insurance,
prepaid homeowners insurance, points and other lenders' fees. Together, these
are known as closing costs, and the total can be eye-popping: somewhere between
2% to 7% of the selling price of the house.
"Usually, when people see the closing costs,
they're like a deer in the headlights," said mortgage broker Huntting, who
works for Pacific Guarantee Mortgage. "It's much more than they ever think it's
going to be."
Plan for closing costs by getting a
good-faith estimate from your lender as early in the loan process as possible.
Make sure you have the cash on hand (or rather, in your checking account) and
that it doesn't "disappear" before closing because of sloppy bookkeeping or a
last-minute emergency.
Not having enough cash on hand after
closing
After borrowing too much, and scraping
together every last dime for closing costs, many home buyers have nothing left
in the bank to pay for anything unforeseen happening --and something unforeseen
always happens.
"It costs so much just to move in," Grose
said. "Then the water heater breaks."
Some people are so tapped out by the
process, Jackson said, that they're not able to make their first mortgage
payment on time. That's why "more and more lenders are requiring [borrowers
have] three months' reserves after closing," Jackson said.
That's a smart idea for borrowers, anyway.
Having three months' reserves, which means a fund equal to three months' worth
of expenses, will help you handle the added costs of homeownership with much
less stress.
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PDF FORMAT
NOTE
Forms/documents/reports in PDF format
require Acrobat Reader to open. If you do not have this software installed on
your computer, it is easy to get and it is free. To obtain your free copy of
Acrobat Reader, go to Adobe. Under Support at
the top of the page, click on Download Acrobat Reader. At the bottom of that
page, click on Acrobat Reader - Free. On the next page, follow Steps 1, 2 and
3. Click on Open and you are done. Once Acrobat Reader is installed on your
computer, you will be able to open all PDF formatted
forms/documents/reports.
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|
Buyers (First-Time) > Structural Inspection
If you have a house for sale your buyers will probably include a structural inspection contingency in the contract which will allow them to have an expert check the house and the major systems and appliances.
A professional structural inspector can help buyers to "know" the house and to feel comfortable with it, but the inspection does not result in a pass or fail grade. The buyers will learn important things about the house, such as where the water cutoff valve is located, in case of an emergency. The inspection may also help buyers set up a budget for repairs and determine if they want to invest in cost-effective measures to increase energy efficiency.
Buyers rarely back out of a sale after a structural inspection. Even if there are problems, you have the opportunity to negotiate a compromise and avoid any obstacles that could seriously threaten the sale.
|
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| Q |
What is considered one of the few remaining tax shelters in the 1990s?
|
| A |
Homeownership--property taxes on a residence or vacation home are deductible up to $1 million. |
 See More Real Estate Trivia > |
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