Mortgages are stressful enough without trying to decode the terminology that comes along with them. Whether you’re a first time home buyer or you are re-financing your home, trying to navigate the mortgage lending process can be difficult if you don’t know what all of the jargon means. Understanding mortgage terms isn’t too tough, and informing yourself will make your mortgage process much easier.
Tuesday Tip – Understanding Mortgage Terms
Don’t let mortgage terms intimidate you. We’ve made understanding mortgage terms easy with this list:
- Adjustable rate mortgage (ARM): a mortgage without a fixed interest rate. Instead, ARM’s are tied to an index and adjusted as the rate index moves up and down. The initial rate is lower than the fixed mortgage.
- Amortization: a repayment method where the amount you borrow is repaid gradually through regular monthly payments of principal and interest. During the first few years, most of each payment is applied toward the interest owed. And, during the final years of the loan, payment amounts are applied almost exclusively to the remaining principle.
- Annual percentage rate (APR): the actual cost of borrowing money, expressed in the form of an annual rate. This makes it easier to compare the cost of borrowing money among several lenders or sellers on credit. The APR includes all the financing costs of a mortgage, including points, origination fees and other finance charges and mortgage interest.
- Appraisal: a written estimate of a property’s current market value. Recent sales information for similar properties, the current condition of the property and how the neighborhood might affect future property value all affect appraisal.
- Balloon (payment) mortgage: a mortgage providing for specific payments at regular intervals, with the final payment considerably more than any periodic payments. Usually paid over a short-term (five to seven years). This type of mortgage may be beneficial if you move before the final payment, as you can benefit from a slightly lower rate. Although it has favorable rates, it can cause problems, even foreclosure, if the borrower can’t afford the final payment when it is due.
- Closing costs: fees incurred in a real estate or mortgage transaction and paid by the borrower during the closing of the mortgage loan. However, sometimes the seller pays the fees. Closing costs include a loan origination fee, discount points, attorney’s fees, title insurance, appraisal, survey and any items that must be prepaid, like taxes and insurance escrow payments. The cost of closing is usually 3 to 6 percent of the mortgage amount.
- Down payment: The initial payment when you buy something that requires credit.
- Escrow account: account held by a lender with funds collected as part of mortgage payments for annual expenses like taxes and insurance. This way, homeowners do not have to pay a large sum when these are due.
- Federal Housing Administration (FHA) mortgage: A federal agency established by Congress in 1934. The FHA insures mortgage loans made by FHA approved lenders on homes that meet FHA standards. FHA loans require lower down payments than conventional mortgages and have less stringent income requirements. These loans are mostly for low-to-moderate income borrowers.
- Fixed rate mortgage: a mortgage with an interest rate that stays constant for the life of the loan. Usually repaid over 15 or 30 years. This type of loan allows the borrower to plan a budget based on the consistent cost. A fixed rate mortgage is the most common, traditional type of mortgage.
- Home equity line of credit: a loan allowing the ability to borrow funds at the time and in the amount you choose up to a maximum credit limit you qualify for. The equity of your home secures repayment. Simple interest (interest-only payments on the outstanding balance) is usually tax-deductible. You may use home equity for home improvements, major purchases or expenses, or debt consolidation.
- Home equity loan: a fixed or adjustable rate loan obtained for a variety of purposes, secured by the equity in your home. Interest paid is usually tax-deductible. Often used for home improvement or freeing of equity for investment in other real estate or investment. Recommended by many to replace or substitute for consumer loans whose interest is not tax-deductible, such as auto or boat loans, credit card debt, medical debt and education loans.
- Housing and urban development (HUD): a U.S. government agency established to implement federal housing and community development programs. HUD oversees the FHA.
- Index: a published rate used by lenders to calculate interest adjustments on ARMs (index + margin = interest rate). Some indexes are more volatile than others.
- PITI (principal, interest, taxes, and insurance): Your monthly mortgage payment to lenders will frequently include PITI’s. Some lenders may allow you to pay taxes and insurance yourself.
- Point: a fee or charge equal to one percent of the principal amount of the loan which is collected by the lender. You will pay a one time fee when you take out the loan. Generally, the lower the interest rate, the more points you’ll pay.
- Prequalification: the process of determining how much money a homebuyer will be eligible to borrow before application for a loan.
- Prime rate: lowest commercial interest rate charged by a bank on short-term loans to its most credit-worthy customers.
- Variable rate: an interest rate that changes periodically in relation to an index. Payments may increase or decrease accordingly.