All About Mortgages, Home Loans & Avoiding Scams

There are many details that you will need to know about a mortgage to avoid being a victim. The annual percentage rate (APR) of a mortgage is the interest rate including the cost of points and other fees.  These other fees include things like private mortgage insurance (PMI).  PMI is insurance that you are forced to take out by the bank if you are putting down less than a certain percentage (usually 20%) of the total purchase price.  This insurance protects the bank from losses in case you stop making your payments.  The bank must drop the PMI once you have built up more than 22% in equity.  Stay on top of this and make sure they drop it when they are supposed to.  If your property appreciates you effectively have more equity in your home.  If this happens you should ask your lender if they will drop the PMI requirement based on the new value.  In order for them to drop the PMI they will most likely require an appraisal which will cost you around $250.

Mortgage Brokers
Mortgage brokers are companies that sell mortgages for many different banks and lenders. They usually get a commission based on a flat fee or a percentage of the loan, paid by the lender. Brokers can be useful in quickly getting you a loan, because they represent many different types of mortgages, and one of them is bound to be ideal for your financial situation. Sometimes, the APR through brokers can be less expensive than going directly to the same bank yourself for financing, because in many cases the broker charges less for closing a loan than the bank's own internal salespeople.

Pros:

• You can get cheaper APR mortgages.

• Sliding lock. If you lock in your APR through the broker, and the market interest rates drop, some brokers can get out of the lock and restart another lock for little or no extra fees. Many banks will not allow that type of practice when dealing directly with them. Some banks will allow you to re-lock, some will not, and some will charge a fee.

• Can quickly find a loan that you would qualify for, whereas a bank might only have one or 2 loan types that you would not qualify for.

Cons:

• They must courier papers back and forth to lenders, so postage charges can add up. It can be $200 in postage fees from one broker before your loan closes.

• Many unscrupulous brokers out there who can steer you into the wrong mortgage. Just because you qualify quickly for a particular mortgage, does not mean it's the best mortgage for you to have. Some try to charge you fees, or put you into mortgages that don't allow early termination, or they have excessively high origination fees. These are issues you need to watch out for.

Mortgage Types
There are many, many different types of mortgages.  We will cover the some of the most common types on this page.

Fixed Rate Mortgage
With a fixed rate mortgage your interest rate is set prior to closing on your home and does not change for the entire term of the loan.   If you are approved far in advance of closing many banks will give you the opportunity to lock in the interest rate 2 - 3 months prior to closing.   Sometimes you may be able to lock further in advance for a fee, which is usually some percentage of a point.  A point is equal to 1% of the loan amount.  Locking early for a fee may be advantageous if rates are low and expected to rise. 

Pros Of Fixed Rate Mortgages:

• You know what your monthly payment amount will be and it will not change. 

• No worries about interest rate hikes that will raise your payments.

Cons Of Fixed Rate Mortgages:

• Initial interest rate is higher than an adjustable rate mortgage.

• If interest rates decline, it will not lower your payments.

• If the interest rates decline significantly, you can refinance your mortgage to take advantage of the lower interest rate.  Refinance charges will be incurred, so the interest rate drop must be able to justify these costs.

Adjustable Rate Mortgage or ARM
With an Adjustable Rate Mortgage the interest rate will vary throughout the term of the loan.  How often the rate change depends upon the adjustment period of the loan. 

Pros Of Adjustable Rate Mortgages

• Adjustable Rate Mortgages are initially priced at a lower mortgage rate than fixed interest rate mortgages. This will result in a lower initial payment.

• The bank is willing to give a lower mortgage interest rate because it is "protected" from higher interest rates in the future.

• Adjustable rate mortgages generally have a rate increase cap  (a cap is a maximum) per year and a lifetime cap on the interest rate. These are important details in an adjustable rate mortgage. It may be better to use an ARM when rates are up high, and they are less advantageous when rates are low. 

• If you plan to be in a house for only 3-5 years, an ARM allows you to pay lower monthly payments for those 3-5 years than a fixed interest rate mortgage.

• If interest rates drop, an ARM provides a way to participate in these lower rates without having to refinance your house. This can save you closing costs. 

• The adjustment period is key to the loan. How often they adjust the payment is important because you want the longest adjustable period. Most decent ARMs have an adjustment period of one year, so your monthly payments remain the same for a year, then increase or decrease the next year.

Cons Of Adjustable Rate Mortgages

• Interest rate hikes will increase the amount of your payments.

• Since it is difficult to predict interest rates changes, it may be difficult to plan a adjustable rate mortgage payment into your budget.

• If you have a cap over 2%, your monthly payments can go up significantly. Try to get the lowest cap you can.

• Catch up clauses can come out of nowhere. If the cap was 3% and the rates rose 5%, they can invoke a "catch up" clause the following year, which can significantly increase your monthly payments.

• Any time interest rates are adjustable, there is risk of volatility and increased monthly payments from the mortgage lenders. 

• Avoid adjustable rate mortgages with negative amortization!

• Be very weary of the word "discount" when looking at ARMs as this means that the loan will most likely have a shorter adjustment period which will lead to a higher cost in the long run.  This is similar to introductory rates on a credit card.

• BE ASSURED THE RATES WILL RISE SHARPLY SOONER RATHER THAN LATER!!!

Other mortgage payment items:

Personal Mortgage Insurance (PMI)
20% down/equity and you don't have to pay this worthless expense!  PMI is insurance that you are forced to take out by the bank if you are putting down less than a certain percentage (usually 20%) of the total purchase price.  This insurance protects the bank from losses in case you stop making your payments.  The bank must drop the PMI once you have built up more than 22% in equity.  Stay on top of this and make sure they drop it when they are supposed to.  If your property appreciates you effectively have more equity in your home.  If this happens you should ask your lender if they will drop the PMI requirement based on the new value.  In order for them to drop the PMI they will most likely require an appraisal which will cost you around $250.

Tax Escrow
20% down/equity and you can pay your own taxes. This means that if you put down at least 20% or have built up 20% in equity the bank will usually let you hold the tax money in an interest bearing account until the taxes are due!

Some other definitions

Mortgage Term
The "term" or length to the mortgage is an important factor that must be considered when looking for a mortgage. Mortgages are generally 15, 20 and 30 years. Generally the shorter the term of the mortgage, the lower the interest rate will be. This is because the bank has less exposure to interest rate increases in the future. The shorter the term, the less chance of interest increases. The shorter terms mortgages will save you a large amount of money in interest payments. If you can not afford a shorter term mortgage, a large amount of interest and monthly payments can be saved by making extra payments towards the loan principle.

Points on a Mortgage
The more points (a point is equal to 1% of the mortgage amount) you are willing to pay, the lower the interest rate on the mortgage will be. So a basic decision needs to be made here, pay the points ($$$$) up front and save on the interest on the mortgage later, or save the money now and pay the higher interest rate as you go.

Below is an example of two mortgages. The first mortgage is a no points mortgage and the second mortgage has points paid up front. Note: in some cases the points can be "put back into" the mortgage, thus increasing the amount of the mortgage by the mount of the points paid on the mortgage.

* Monthly Payment includes Principle and Interest.

In the example above, the payment of 2 points, equivalent to $3,000.00  on the $150,000.00 mortgage lowered the monthly payment by $25.05 and saved a total of $9,025.58 in interest over the life of the mortgage.

On the third row in the table the $3,000.00 in points were put back into the mortgage, increasing the mortgage amount   $150,000.00 to $153,000.00 The monthly payments decrease from $997.95 to $992.36 a savings of  $5.59, while the interest over the life of the loan went down from $209,266.34 to $204,243.90 a savings of $5,022.34 in this case.

Source: http://www.housebuyingtips.com/mortgage.htm