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Mortgage Lesson
A mortgage (sometimes called paper) is nothing more than security given to the lender to prove that they are entitled to the loan payments for the property represented by the paper. Unless you are really wealthy you can’t purchase a home without a loan. The loan allows you to control a huge asset with a small amount of money. In most cases you are required to put down a percentage of the total price of the home as a down payment on the loan. This is called leverage because for say 10% of the cost of the house you own the property as long as you continue to make your payments until the loan is paid off. The down payment helps the lender feel confident that they will get their money back from the loan with interest or they will take the home back from you using the mortgage to prove they are entitle to the property or the money. There are a number of different kinds of mortgage loans. Some of the types are: fixed rate, adjustable rate, balloon, no document, and interest only. Depending on economic conditions when you are applying for the loan lenders can get very creative when they really want and need to make loans. The interest rates can vary again based on economic conditions or even your ability to pay. Lenders like to protect themselves from the risk of loss so if you don’t have the best of credit or maybe you just don’t have a lot of money for a down payment they will charge you a higher interest rate than somebody with less risk.
In order to get a loan you need to have good credit just as you would with any other loan, however, lenders are a little more lenient with a home loan because the loan is secured by the property and they know you can’t move the property and the chances are pretty good that the value of the property will increase over time. The main thing the lender will do is look at your assets minus your liabilities to figure your net worth. Once they are comfortable with your net worth they will look at your debt ratio (debt to income ratio) to see if you have enough money coming in to cover your bills including your mortgage payment. Usually they don’t want your debt ratio to be higher than 45% but that can change depending on economic conditions and how tight the credit markets are at the time. They figure your debt ratio by dividing your monthly income by your monthly debt. One of the common types of mortgages is a fixed rate mortgage. This type of loan stays at a fixed interest rate for the term of the loan. This in my opinion is the best type of loan to have because the longer you have the loan the easier it is to make your monthly payments. If you start out with a home when you are young and say your monthly payment is $1000.00/month it will be $1000.00/month for the life of the loan. The beauty of this loan is as you get raises your monthly payment stays the same therefore you debt to income ratio decreases.
The opposite type of loan is the adjustable rate loan. This loan adjusts at some predetermined time which can be every year, every month, every two years etc… The terms of the loan are decided when you apply for the loan. The benefit to this loan is the monthly payments usually are lower than a fixed rate loan. The down side to them is your monthly payment can increase and cause you not to be able to make your monthly payments. Many people have loss their homes as a result of their payments increasing beyond their income due to the adjustments. The other side of this is if interest rates go down you could end up with a lower monthly payment. If you decide to take an adjustable rate mortgage you need to pay close attention to interest rates and the current economic conditions so if you need to you can refinance your loan and get a fixed rate loan. You really have to keep your credit squeaky clean. I urge you to be very careful with adjustable rate loans.
Another type of loan is a balloon loan. This loan may have very low or no monthly payments but at a predetermined time the loan becomes due and payable in full. This is the type of loan you would use if you know you have some money coming at a certain time so you can pay the loan off. Another option would be to refinance the loan at another time. This would be useful if you think interest rates are going to go down in the near future. There is also an interest only loan that you pay interest only for a specified period of time after which the loan becomes due and payable in full. These types of loans should be temporary until you can get a fixed rate loan.
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