The Beginners Guide to Understanding Home Loans
Everything You Need to Know Before You Buy Your First Home
It’s one thing to dream of buying a home, but it’s another thing to actually do it. Buying a home is a complex process and if you aren’t at least somewhat familiar with how it works, the experience could be confusing, and in some cases even frustrating, right from the start.
The reality is, buyer confusion is one of the main reasons why people get into trouble with their home loans, and it was just one of many factors that caused the housing market to go south a few years ago. That’s why it’s so important to have a basic understanding of the terms used throughout the home buying process. This guide will help you learn all of the fundamental terms you’re likely to hear when buying a home.
Common Mortgage Terms
- Mortgage: Your mortgage is the loan you are borrowing from your bank or lender so you can buy your home. The terms “mortgage” and “home loan” are essentially the same thing.
- Prime Loan: A prime loan is a loan that is made to a borrower who the bank considers an ideal, low-risk borrower.
- Subprime Loan: A subprime loan is a loan that is made to a borrower whom the bank considers to be more of a risk due to the borrower having a higher debt-to-income ratio.
- Borrower: The borrower is the person who is buying the home and taking out the mortgage. You are the borrower.
- Lender: The lender is the financial institution that is giving you the money to buy your house. A lender can be a bank, a credit union, or any other lending institution.
- Interest: When you borrow from a lender, you have to pay interest on the amount. The amount you pay in interest is determined by the interest rate set on your loan.
- Down Payment: When buying a home, you are going to have to put a down payment on it. This is usually between 15 and 20% of the selling price of the home, and it is paid immediately when the loan is made. The down payment is often looked at as proof to the lender that the borrower is able to handle the mortgage.
- Points: Some lenders will allow you to pay extra fees known as interest points at the start of the loan. By paying points upfront, you will be able to lower your interest rate, which will equate to lower interest amounts in your monthly payments.
- Underwriting: Underwriting is a process in which the lender reviews your financial standing to better gauge your risk level. The underwriting process determines what type of mortgage, and how much, you qualify for.
- Principal: Every month you pay your mortgage payment, a certain amount goes toward interest, taxes, and principal. Principal is the amount remaining on your home loan. In a 30-year mortgage, very little goes toward the principal in the first 15 years because the borrower is essentially paying the loan’s interest in advance over that time.
- Escrow and Title: Buying a home is a sizable monetary transaction. Because of this, a neutral third party is used to handle the transfer of funds between the borrower and the lender. The money being held is called escrow and the company handling the transfers is the Title Company. Usually, title insurance will also be required to protect the lender’s interest in the property.
- Foreclosure: If a borrower cannot keep to his or her mortgage payments and they fall into default, then the lender can initiate foreclosure proceedings in which they will stop the mortgage and eventually seize the house if the lender cannot bring their loan current in time. Foreclosure laws differ in each state.
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