If you’ve always rented, you may be confused about mortgages and the process of securing one to buy a house. If so, this article is for you. We’ll cover just what is a mortgage, and how to go about finding the one that’s right for you.
Most people can’t pay cash for a house. If you can, congratulations. For the rest of us, there are mortgages. A mortgage is a loan contracted from a mortgage lender or bank, used to finance a house purchase. By signing a mortgage contract, you promise to repay the principal of the cost of the house, plus interest and other costs (like taxes and insurance). Your home is the collateral for the loan. If you don’t pay the loan, they take the house back. This is called foreclosure.
Your mortgage will require monthly payments, just as any loan would. Your payment each month covers a portion of the principal, interest, taxes, and insurance. Property Mortgage Insurance (PMI) protects your lender if you default, or do not pay the loan. PMI is not required if you put at least 20% of the price of the house down as a down payment at the time of purchase. So it is highly recommended that you put down 20% when purchasing a house, as this will save you money in the long run.
Now that you know what a mortgage is, let’s cover the process of getting one. First and most important, you will need to take a good hard look at your personal finances so that you can make an honest determination of how much house you can afford. What is your monthly income, and how much you have left over after paying your other bills, contributing to savings and retirement, etc. A mortgage payment should only be a quarter to a third of your take home pay, but remember that you need to factor in your other financial obligations.
Once you know how much you can afford to pay in monthly costs, find out how big of a loan you qualify for. There are plenty of online calculators, but your lender will give you the most accurate calculation, based on the rates they offer and your credit score. Remember, a lender may tell you that you qualify for a bigger loan than you need, or than may be a good idea to take. Stick to what you’ve determined for your budget and don’t let yourself get attached to a house that costs more than you can afford.
The most common mortgage loan types are the fixed mortgage and the Adjustable Rate Mortgage (ARM). A fixed mortgage means that the interest rate is constant, and your payments will not fluctuate based on the economy. An Adjustable Rate Mortgage will have a fixed rate at the beginning for a few years and then the interest rate adjusts yearly based on the going rate, determined by the economy and the real estate market. For this reason, fixed mortgages are the most popular, because of their stable nature. Additionally, an adjustable rate mortgage can only be gotten on a 30 year term, unlike fixed mortgages, which can be either 15 or 30 (most commonly). Some lenders may offer a 10 or 20 year term, but they are less common.
Your lender is about to get to know you very well. As part of the process of finding out what kind of loan you qualify for and what the terms are, you will need to provide your employment history and paystubs for at least 2 years, tax returns and W-2s for two years, an accounting of current debt, at least 3 months of investing statements, banking information which includes 3 months of statements, and possibly even divorce papers (if applicable). Any gaps in employment will need a written explanation, and your current employer may need to submit an employment verification form.
It is recommended that you get prequalified for a loan so that when you find the house you wish to purchase, you can move swiftly. This will also help to prevent any nasty surprises that might derail the purchase process and set you back to square one. Once you have found the right house for you and have made an offer based on your loan pre-qualifications that has been accepted by the seller, you will be ready to start the closing process.
Once you reach the closing, you’re almost there. This is where the transfer of ownership actually takes place. There will be several documents that need signing:
- The deed, which will be brought by the seller, and will be signed and notarized and filed with the county. It is a public record.
- HUD-1 Settlement, required by federal law, which itemizes services of the lender, and charges both buyer and seller.
- The mortgage note, which is the finalized loan paperwork with the due dates, payment amounts, etc.
- Truth-In-Lending Statement, which includes the annual percentage rate (APR), any fees, and other costs.
Once the paperwork is completed, that’s it. You can walk out of that office, keys in hand and enjoy your new home.