Types of Mortgages
Understanding Loan Costs
Down payments, rates, points, and fees can make a loan that looks good at first glance into something else once all the facts are known. Knowing the amount of the monthly payment or the interest rate is not enough. Be sure to get information about potential mortgages from several lenders or mortgage brokers and find out all of the costs involved with a loan. When comparing loans, make sure you’re reviewing the same information in each loan such as (loan amount, loan term, type of loan, monthly payment, penalties, features, and annual percentage rate (APR)).
Ask about the loan's annual percentage rate (APR). The APR takes into account not only the interest rate but also points, broker fees, and certain other credit charges that you may be required to pay, expressed as a yearly rate. This will specifically tell you the cost of what you’re borrowing and will allow you to compare the costs of one loan to another.
| TIP: | Note everything in writing. A daily journal of all conversations can be a powerful tool in resolving conflicts later. |
Never take the loan officer’s verbal promise on any detail or feature of the loan that matters. You have a right to receive commitments in writing and a professional should never hesitate to provide this. If your loan officer is unwilling to put his promises in writing, you should not rely on those promises.
Be sure to get, gather, and compare the following information from each lender and mortgage broker:
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Rates
- Ask each lender and broker for a list of their current mortgage interest rates and whether the rates being quoted are the lowest for that day or week.
- Ask whether the rate is fixed or adjustable. Keep in mind that when interest rates for adjustable-rate loans go up, so does the monthly payment.
- If the rate quoted is for an adjustable-rate loan, ask how your rate and loan payment will vary, including whether your loan payment will be reduced when rates go down.
- Ask what Index and Margin will be used.
- Find out how frequently your rate can adjust (monthly, 6 months, or yearly) and how much it can change at each adjustment (yearly caps, lifetime caps).
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Points
Points or discount points are fees paid to the lender or broker for the loan and are often linked to the interest rate. Usually, the more points you pay, the lower the rate. Ask to see exactly how much your rate will be dropped based on the amount of discount points you pay. For example, paying 0.50% of the loan amount in discount points may adjust the loan rate downwards by 0.25%. Each program and lender will use a different formula and the amounts of points will change daily as market rates change.
Note the trade off between points and rates and compare your short-term needs against your long-term needs. Here is an example based on $100,000, 30 year fixed rate mortgage at a 6.5% interest rate:
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With NO Discount Points |
With Discount Points | |
| $ Amount of Points | $0 | $250 |
| Interest Rate | 6.5% | 6.25% |
| Monthly Payment | $632 | $616 |
In the above example, it would cost you $250 to save $16 a month in your payment. Only you can determine if this is a beneficial trade off for you. Ask yourself whether you can afford the extra cash upfront right now and then note the following:
- The $250 repays itself in approximately 16 months (dividing $250 by $16 equals 15.63 months). Every month you keep the loan after this point you will be “making” an extra $16 per month. Over the next 344 months this equates to $5,504.
- Over the life of the loan, this $250 investment also saves you approximately $5,886 in interest.
- Check your local newspaper business section for information about rates and points currently being offered.
- Ask for points to be quoted to you as a dollar amount - rather than just as the number of points - so that you will actually know how much you will have to pay.
| TIP: | CAUTION: A mortgage broker should not directly charge you any discount points because they don't set the rate. |
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Fees
A home loan often involves many fees, such as loan origination or underwriting fees, broker fees, transaction, settlement, and third party costs. Every lender or broker must give you an estimate of its fees when you apply for a mortgage loan. Many of these fees are negotiable. Some fees are paid when you apply for a loan (such as application and appraisal fees), and others are paid at closing. In some cases, you can borrow the money needed to pay these fees, but doing so will increase your loan amount and total costs. “No cost” loans are frequently available, but they usually involve higher rates.
- Ask what each fee covers. Several items may be lumped into one fee.
- Ask for an explanation of any fee you don't understand. Some common fees associated with a home loan closing are listed on the Mortgage Shopping Worksheet.
- Third party costs should be charged to you at the actual cost of service. Ask to see invoices if you feel you're paying too much.
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Down Payments and Private Mortgage Insurance
Some lenders require 20% of the home's purchase price or value as a down payment or equity in the loan. This requirement is known as the Loan to Value or LTV. A 20% down payment or equity equates to an 80% LTV. Your lender will tell you their LTV requirements for each type of loan.
Most lenders offer loans that require less than 20% down—sometimes as little as 0% on conventional loans. If a 20% down payment is not made, lenders usually require the borrower to purchase private mortgage insurance (PMI) to protect the lender in case the borrower fails to pay. When government-assisted programs such as Federal Housing Administration (FHA), Veterans Administration (VA), or Rural Development Services are available, the down payment requirements may be substantially smaller.
- Ask about the lender's requirements for LTV including what you need to do to verify that funds for your down payment are available.
- Ask your lender about special programs that they may offer.
If PMI is required for your loan:
- Ask for the total cost of the insurance.
- Ask how much your monthly payment will be when including the PMI premium.
- Ask how long you will be required to carry PMI and how it can be removed later.
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Taxes and Homeowner's Insurance
Many lenders will require your monthly loan payment to include an additional amount to cover annual property taxes and homeowner's insurance. The amount is deposited into an account commonly called a reserve. Be sure to ask if taxes and insurance payments are required or optional by the lender. Typically, lenders will require monthly real estate taxes and homeowner insurance payments if the LTV is greater than 80%. When comparing monthly payments from various lenders, be sure to ask if the lender included monthly taxes and insurance costs in the total payment. If they are included, ask for the costs to be broken down in the following manner:
- Principal and interest
- Real estate taxes
- Homeowner's insurance
- Private mortgage insurance
