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Mortgage 101

Mortgage 101

Before you begin the mortgage process, it’s important to have your financial plan for purchasing in place. Use your tracked monthly budget to save for a down payment, reduce debt and increase your credit score.

It’s also crucial to take the extra time to search for the right lender and the right loan. Check references, shop around and ask plenty of questions- including an estimate of fixed costs for the mortgage.

Your lender will inform you on the documentation you will need. However, you can begin preparing standard documents now, such as:

  • 1 month of recent pay stubs
  • Most recent 2 years of tax filings
  • 3 months of bank account statements

And finally, make sure to respond quickly to the paperwork your lender requests to keep the mortgage process on schedule.

Now that you have the basics down, you’re off to a great start for a seamless mortgage approval!

WHAT IS MORTGAGE?

A mortgage is simply a loan that is used to buy your home.

Unless you can pay for your home upfront in an all-cash offer, you’ll need to take a loan from the bank to pay the home off gradually.

Just like any loan, you’ll need to apply for it. If you’re “approved” you will be able to borrow a certain amount of money from a lender. Each month you’ll pay a portion of the loan (plus interest) for a period of time.

The requirements to secure a mortgage may seem overwhelming – but by understanding basic lending terminology and requirements, you’ll be able to avoid common roadblocks.

Use this guide to learn how to prepare before applying for a mortgage, and what to watch for during the process to keep your mortgage application as simple as possible.

Who Gets a Mortgage?

Most people who buy a home do so with a mortgage. A mortgage is a necessity if you can’t pay the full cost of a home out of pocket. There are some cases where it makes sense to have a mortgage on your home even though you have the money to pay it off. For example, investors sometimes mortgage properties to free up funds for other investments.

How Does A Mortgage Loan Work?

When you get a mortgage, your lender gives you a set amount of money to buy the home. You agree to pay back your loan – with interest – over a period of several years. You don’t fully own the home until the mortgage is paid off.The interest rate is determined by two things: current market rates and the level of risk the lender takes to lend you money. You can’t control current market rates, but you can have some control over how the lender views you as a borrower. The higher your credit score and the fewer red flags you have on your credit report, the more you’ll look like a responsible lender. In the same sense, the lower your DTI, the more money you’ll have available to make your mortgage payment. These all show the lender you are less of a risk, which will benefit you by lowering your interest rate.

THE PROCESS

CHOOSE YOUR LENDER

Shop around to find the best mortgage for your financial situation. Make sure to ask plenty of questions, such as:
• What is your process for preapproval and closing?
• How do you communicate with homebuyers?
• What will be my down payment requirement?
What are the fees?

STEP01

STEP02

GET PRE-APPROVED FOR A MORTGAGE

The lender will review your financial situation to determine how much they are willing to lend. Pre-approval helps you:
• Be taken seriously as a buyer
• Know how much you can afford
• Have negotiating power
• Speed up loan processing time for a quicker, smoother closing

HOUSE HUNTING & OFFER

Find your ideal home and present your offer. You may need to negotiate the price with the seller, and both parties will sign a purchase agreement.

STEP03

STEP04

LOAN APPLICATION & PROCESSING

You’ll fill out a loan application with the info about the home being purchased. The loan processor will create your file and request your documentation. Once your home inspection is complete, the lender will order an appraisal for your home.

UNDERWRITING, APPROVAL & CLOSING

The underwriter analyzes the loan file to determine if it can be approved. You may be asked for more information, but don’t be frustrated -this is normal! The underwriter will issue an approval, and you’re ready to attend the closing to finalize your home purchase.

STEP05

PREQUALIFICATION

Mortgage prequalification is an informal evaluation of your creditworthiness and how much home you can afford. Prequalification indicates whether you meet the minimum requirements for a loan and how big that loan may be. Prequalification is an important step for those who aren’t sure whether they’re financially ready for homeownership.

What Information do I need to provide?

  • Income Information
  • Credit Check
  • Basic Information About Bank Accounts
  • Down Payment Amount and Desired Mortgage Amount
  • No Tax Information Required

Which is right for me?

First-time homebuyers are more likely to find that getting prequalified is helpful, especially when they are establishing their home buying budget and want an idea of how much they might be able to borrow.

PRE APPROVAL

Pre Approval is as close as you can get to confirming your creditworthiness without having a purchase contract in place. You will complete a mortgage application and the lender will verify the information you provide. They’ll also perform a credit check. If you’re pre-approved, you’ll receive a preapproval letter, which is an offer (but not a commitment) to lend you a specific amount, good for 90 days.

What Information do I need to provide?

  • Copies of Pay Stubs that Show your Most Recent 30 Days of Income
  • Credit Check
  • Bank Account Numbers or Two Most Recent Bank Statements
  • Down Payment Amount and Desired Mortgage Amount
  • W-2 Statements and Personal/ Business Tax Returns from the Past Two Years

Which is right for me?

Pre Approval can be extremely valuable when it comes time to make an offer on a house, especially in a competitive market where you might want to stand out among other potential buyers. Again, a seller will be more likely to consider you a serious buyer because you have had your finances and creditworthiness verified.

TYPE OF LOANS

CONVENTIONAL

A mortgage in which the interest rate remains the same throughout the entire life of the loan is a conventional fixed rate mortgage. These loans are the most popular ones, representing over 75% of all home loans. They usually come in terms of 30, 15, or 10 years, with the 30-year option being the most popular. While the 30-year option is the most popular, a 15-year builds equity much faster.The biggest advantage of having a fixed rate is that the homeowner knows exactly when the interest and principal payments will be for the length of the loan. This allows the homeowner to budget easier because they know that the interest rate will never change for the duration of the loan.

FHA

An FHA Loan is a mortgage that’s insured by the Federal Housing Administration. They allow borrowers to finance homes with down payments as low as 3.5% and are especially popular with first-time homebuyers.FHA loans are a good option for first-time homebuyers who may not have saved enough for a large down payment. Even borrowers who have suffered from bankruptcy or foreclosures may qualify for an FHA-backed mortgage.

VA

VA loans are guaranteed by the US Department of Veteran Affairs. They help veterans & active duty military members afford purchasing a home without requiring a down-payment by guaranteeing 20% of the loan’s value up to the conforming loan limit.

COST TO CONSIDER

Earnest Money

Earnest money is a deposit made to a seller that represents a buyer’s good faith to buy a home. The money gives the buyer extra time to get financing and conduct the title search, property appraisal, and inspections before closing. The cost is typically 1-2% of purchase price.

Down Payment

Your minimum down payment depends on the type of mortgage, the lender and your finances. A 10% down payment on a $350,000 home would be $35,000.When applying for a mortgage to buy a house, the down payment is your contribution toward the purchase and represents your initial ownership stake in the home. The lender provides the rest of the money to buy the property.

Closing Costs

Closing costs are fees and expenses you pay when you close on your house, beyond the down payment. These costs can run 3 to 5 percent of the loan amountand may include title insurance, attorney fees, appraisals, taxes and more.

MORTGAGE BREAKDOWN

PRINCIPAL

The principal is the repayment of your loan amount. This is the portion of the payment that is used to reduce the balance you owe. It may be obvious, but the larger the balance, the higher the mortgage payment.

INTEREST

Lenders charge interest on a mortgage as a cost of lending you money. Your mortgage interest rate determines the amount of interest you pay, along with the principal, or loan balance, for the term of your mortgage. Mortgage interest rates determine your monthly payments over the life of the loan.

TAXES

Whenever you obtain a mortgage, state and local governments enforce a mortgage recording tax to document the loan transaction. This fee is separate from mortgage interest and other annual property taxes. Since it is state-imposed, the mortgage recording tax must be paid to the government when you register a mortgage.

INSURANCE

Mortgage insurance lowers the risk to the lender of making a loan to you, so you can qualify for a loan that you might not otherwise be able to get. Typically, borrowers making a down payment of less than 20 percent of the purchase price of the home will need to pay for mortgage insurance.

WHAT’S NEXT

Applying for a mortgage is never simple, but it’s even trickier when you don’t know what to expect. If you’re preparing to buy a house for the first time, you can make the process easier on yourself by learning as much as you can ahead of time, before you’ve found your dream house. Knowing what to expect allows you to plan ahead and improve your chances of getting a mortgage with favorable terms.

Know your Budget

If you want to qualify for a mortgage on your first try, it’s important to know how big of a loan you can reasonably afford. Lenders figure this out by looking at your debt-to-income ratio (DTI): the percentage of your income that you’re spending each month to pay your debts, among other things.

Improve Your Debt-to-Income Ratio

When applying for a pre-qualification, if you are told that you won’t qualify for a big enough loan to afford a house in your area, you can take steps to improve your DTI before you start house shopping. There are two ways to do this:Increase Your Income. You’ll qualify for a bigger home loan if you make more money. Start thinking about how you can get a promotion, move to a higher-paying job, work more hours at your current job, or start an income-generating side business.Reduce Your Debt. Making more money isn’t always an option. For most people, it’s easier to improve their DTI by paying down other debts, such as credit cards, student loans, or auto loans.

Save Up for a Down Payment

If you have no other debts to pay off and you can’t increase your income, your best option is to shrink the size of the home loan you need. The easiest way to do this is to save up a bigger down payment. As a bonus, if you can manage a down payment of at least 20 percent, you won’t need private mortgage insurance, which will lower your monthly payment.

Boost Your Credit Score

When you apply for a mortgage, having a good credit score is a huge advantage. It will allow you to qualify for a better interest rate, saving you thousands of dollars over the life of your loan.

Know Your Loan Options

Before you start shopping for a mortgage, learn about the different loan options available to you and what they have to offer. Here are a few things to look into:

  • The difference between fixed-rate and adjustable-rate
  • FHA and VA home loans
  • Special programs for first-time homebuyers in your state
  • Factors that affect your interest rate, like loan term and points
  • Types of fees you may need to pay on a home loan

Find the Right Lender

Once you know what you want in a home loan, it’s time to start looking for a lender. There are three important things to look for in a mortgage lender:A good understanding of the mortgage business. The lender should know all about the different loan options you researched above, as well as any special rules that apply in your local area.A good overall reputation.A good deal. This means more than just the interest rate – look at the combination of interest rate, points, and other fees to see which lender can give you the most bang for your buck.

Get Your Paperwork in Order

Once you’ve found the right loan and the right lender, the last thing to do is gather together the documents you’ll need to apply for a mortgage. For starters, most lenders will expect to see your pay stubs from the past month, your tax returns from the past year, and a few months’ worth of bank statements. Other important documents include credit card and loan statements and proof of your assets, such as retirement funds and other investments.


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