For prospective homeowners, mortgages can seem like a complex and daunting part of buying a home, but when it comes down to it, a mortgage is essentially a loan. While it’s another form of debt, many view it as a positive form of debt, one that adds to your financial portfolio over time.
Mortgages can be complicated, so here’s a simple guide to help you understand the basics:
How a Mortgage Works
A mortgage is a lending vehicle that allows you to pay a fraction of your home’s cost upfront, aka the down payment, while a bank or lending institute loans you the remainder. Over the loan period, you make payments plus interest to pay off the loan, while your home serves as collateral.
Researching a Mortgage
Your choice of lender and mortgage structure should be based on your personal comfort and needs as a borrower. Here are a few basic factors to take into consideration when researching which mortgage option is right for you:
- Applying – Your mortgage application will be submitted to the lender, typically a bank that you are comfortable dealing with. Their initial approval or denial is based on factors such as credit history and affordability. Once that approval is granted, they evaluate the property (or collateral) by ordering an appraisal.
- Structure – Mortgage payments are structured around what is commonly known as PITI, Principal, Interest, Taxes, and Insurance. Escrow accounts are established to assist the borrower with real estate taxes and homeowner’s insurance obligations.
- Types of Mortgages – There are many different types of mortgages, but the most common are 30-Year Fixed, 20-Year Fixed, and Adjustable Rate Mortgages (ARM). 20 and 30-Year Fixed Mortgages indicate the amount of time you have to pay off your loan at a fixed interest rate, while ARMs combine fixed and adjustable rates over predetermined time intervals to reflect market trends.
A mortgage is just one part of the larger picture of home ownership – in the years leading up to buying a home, it’s important to establish good credit, save money for a down payment, and find a reputable and reliable lender when the time for buying your first home finally arrives.