Are you looking at buying a home? If yes, then you’ve come to the right place.
With 81% of Americans still believing that a home is the best long-term investment, buying a new house is a huge undertaking.
Whether you’re a first-time or seasoned home buyer, the buying process can be tricky. To make matters worse, lenders, real estate agents, and mortgage providers tend to use confusing mortgage terms.
Understanding how crucial these mortgage terms are, we’ve explained seven terms to help you feel confident when buying a house.
Keep reading and find out.
1. Interest Rates
This is the amount due for a certain period of time as a proportion of the amount borrowed. It’s usually shown in annual percentage form.
Understanding the interest rates is very important as it could significantly impact the total amount you end up paying for your home.
There are various types of interest rates in the market. Therefore, it’s imperative that you find the best interest rate type while buying a house. This will help you save money every month when servicing your mortgage.
With a fixed-rate mortgage, the interest rates stay the same throughout the entire duration of the loan. On the other hand, an adjustable-rate mortgage means that the rates will vary throughout the entire loan period. The initial rate stays fixed for a while, but later it fluctuates periodically.
Your lender determines your mortgage interest rates depending on various factors like;
• Credit score
• Loan type, amount, and length
• Down payment
This is the process of paying off your mortgage with fixed payments regularly for some time. The regular fixed payments usually cover the interest and principal amount, and the interest gradually lowers throughout the payment schedule.
Amortization occurs whenever a payment is made. The payment is divided into interest and principal, and if the charge is fixed, it is usually the sum of those two parts.
The interest fee is calculated as a percentage of the remaining principal and may be influenced by the borrower’s credit; the principal is the amount borrowed from the lender. The balance is the principal less payments made against it.
3. Down Payment
When considering buying a home, one of the most important factors influencing your mortgage rate is the down payment. Down payment is the amount you pay upfront, which is usually a portion of the purchase cost of the house.
The down payment plays a huge role in the amount you end up paying for the house. This is because if you have a higher amount of money as a down payment, you’ll spend less money on fees and interest and vice versa.
While there’s no rule on a minimum amount acceptable as a down payment, the rule of thumb is to mortgage a property between 2 to 2.5 percent of your gross income. For example, if your annual gross income is $100,000, go for a house costing $200,000 to 250,000.
4. Closing Costs
These are the expenses and fees incurred by buyers and sellers while in the buying process. They are due when closing a real estate transaction, and they’re usually on top of the property’s purchasing cost.
These costs include; credit report charges, origination fees, title fees, appraisal fees, and many more. Laws require lenders to disclose these fees in loan estimate forms. While the buyer generally pays closing costs, there are certain situations that the seller may cover some of them.
The closing costs vary from state to state, and other factors like property taxes determine the total closing costs.
5. Debt to Income Ratio
The debt to income ratio is a measure of the ability of a borrower to repay their loans. It’s measured as the percentage of the borrower’s gross monthly income that goes to servicing your monthly debts. Lenders use them to determine the risk of the borrower.
A low debt to income ratio (DTI) shows that you have a healthy balance between your income and debts. Simplified, it means that if you have 20% DTI score, 20% of your gross monthly income goes to service your monthly debts. So, if you have a higher debt to income ratio, it tells your lenders that your monthly income is not enough to service your high debts.
The maximum DTI ratio will vary from one lender to another. However, borrowers with a low DTI are more likely to be considered and approved for a credit application than those with a high DTI ratio.
6. Loan to Value Ratio
Loan to value ratio or LTV is a risk assessment method used by financial lenders and mortgage lenders before approving a mortgage. It’s usually expressed in percentage and is calculated by dividing the principal amount by the property’s appraised value.
Typically, when a borrower requests a loan with an LTV ratio near or at the appraised amount, lenders perceive it as a high-risk loan. If the LTV is high, the lenders may have difficulty selling the property for a profit should a foreclosure event occur.
The LTV ratio is determined by the down payment amount, appraised value, and sale price. High down payments will translate to a low LTV ratio.
A preapproval letter indicates the willingness or intent to lend a borrower financial assistance to buy a new house. This is usually given after the lender has done a comprehensive background search on the lender to assess their risk.
However, the preapproval letter doesn’t guarantee the loan to the borrower. The borrower can give the letter to the seller to indicate that the buyer is likely to get a loan.
Understand the Mortgage Terms Used When Buying a Home
Buying a home doesn’t have to be a stressful affair. Understand the above-discussed mortgage terminologies to get a smooth buying process.
Was this post helpful? Be sure to check out our blog for everything about Real Estate Mortgage and Finance.