Homeownership is a major goal for thousands of Americans. One of the best ways to achieve this aim, however, is with a mortgage.
Real estate owners all over the US use mortgages to make housing more affordable. Rather than having to pay the large sums of money commanded by high property prices in one go, these financial instruments allow owners to pay off over a period of years and even decades.
Naturally, mortgages can seem complicated and even intimidating to a first-time buyer. Yet, if you’re unfamiliar with how mortgages work, don’t panic. This page looks into what these borrowing instruments can help you do, what different forms they take, and how they work in principle.
What is a Mortgage
A mortgage is a type of loan that helps buyers raise immediate funds to obtain a home or a building. This uses the purchased property or real estate as collateral.
These allow the holders of the mortgage to pay back the provider via a pre-agreed number of installments over a set period of time rather than upfront all at once. This makes it much easier in turn to afford property prices.
It’s also possible to see mortgages referred to as a “claim on a property” or a “lien on a property”. These are simply synonymous terms used by financiers and some key financial and legal documents.
In addition to the principal sum of money lent by the mortgage provider, the borrower will usually be liable to pay a varying or fixed rate of interest. This and the originally lent amount must be paid off in their entirety before the mortgage can be closed.
However, If they fail to make payments satisfactorily then the mortgage could be foreclosed by the lender, seized, and sold to cover the loss.
Who Uses a Mortgage?
A mortgage is usually taken out by an individual, family, or business seeking to buy one or more types of real estate. That said, not just anyone can be approved for a loan of this type. Being accepted by a lender for a mortgage will often depend heavily on your financial status. It's a good practice to add a statute of fraud to prevent the creditor for fraudulently contending.
Banks and mortgage companies therefore often set criteria to decide on who they can safely provide home financing to. Broadly speaking eligibility for a mortgage is assessed by:
- How much you want to borrow
- The amount of money you will give as a down payment
- Your job and salary
- The type of property you are buying
- Your expenses
- Your credit rating
What Type of Mortgages Exist?
There are many different types of mortgages on the market that borrowers can choose from. As most firms are competing for your business, they package these loans in different ways to offer suit the needs of different types of clients.
Mortgages you’ll find on the market will come in all shapes and sizes. However, in most cases they can be narrowed down into 2 distinct types:
- Fixed-rate mortgages: In this case, the interest rates of the mortgage are at a set, pre-agreed amount. This lasts for the entire duration of the payments and means that monthly installments never change in value.
- Adjustable-rate mortgages (ARM): ARMs are a little more variable. For an initial period, they work the same as fixed-rate mortgages. However, after that time has lapsed they will then fluctuate based on the market rates of interest. If these are low you will pay less per month but if they rise dramatically you could end up paying a lot more.
There are other rarer types of mortgage you may see like interest-only mortgages. However, many of these have been discontinued since the housing bubble crash of 2007.
If you’re unsure which type is right for you and what rate of interest you can afford, banks and financiers normally provide a mortgage calculator that can help illuminate the situation. This allows you to figure out what the best down payment amount will be and what kind of repayment schedule you’ll face.
What is Mortgage Insurance?
One of the extra fees you may see alongside your monthly repayments is PMI, which stands for private mortgage insurance. This is often a pre-requisite that lenders will have for buyers investing under 20% of a property’s value.