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What is a Mortgage?
A home loan, most often referred to as a mortgage, is a loan that involves the use of real estate as collateral. Mortgages are usually loans given by a bank or mortgage lender to finance the buying of a home in exchange for the cash obtained by the individual to purchase the property. The lender gets the promise and assurance of the individual to pay back the amount borrowed within an agreed time, which is secured by the deed to the property. The purchased property acts as the collateral in exchange for the money borrowed until the loan is repaid. Although the borrower possesses the property, it is the lender that has the ownership right of the property until the borrowed sum is paid in full.
Buying a home
Buying a home is likely to be one of the smartest financial decisions anyone can make. Acquiring a home is an investment, and more often than not, the value of a home appreciates. One way to view home buying is that the home is considered a physical asset, and should you choose to sell, a return on the initial investment can be subtracted from the acquisition cost, often leaving a handsome profit. Another way to look at homeownership is to see the benefits of living in your own space affords you. Not only does homeownership offer stability and a sustainable future for you and your family, it also affords the opportunity for social and tax benefits.
Importance of a mortgage
Mortgages provide an opportunity for individuals who lack enough funds to break down large purchases into smaller parts in order for them to be able to purchase certain properties like houses. There is a two-way risk factor that comes with a mortgage; borrowers are at risk of losing their property when they fail to pay, and lenders take the risk of giving out the loan as there is no guarantee borrowers will pay when due.
How a mortgage works
The money borrowed, the principal, is charged interest on by the bank or mortgage lender until principal and applicable interest is repaid. Typically, the kind of mortgage you apply for determines on what schedule and proportion the interest and principal is paid off.
Types of mortgages
There are two main types of mortgages:
- Fixed Rate Mortgage
- Adjustable-rate Mortgage
Fixed Rate Mortgage: In this type of Mortgage, the interest rate is fixed for a number of years. This type of loan usually attracts a high-interest rate.
Adjustable-rate Mortgage: In this type of Mortgage, the interest rate varies all through the duration of the loan. The loan comes at an initial fixed rate for a number of years before alternating annually for the remainder of the loan. This type of mortgage can be a great deal depending on the interest rate environment, but also involves more risk and extra caution is warranted.
Calculate Your Mortgage Payment
It is essential the mortgage you decided on does not put too much strain on your budget. In order to see how much debt you can afford to take on, calculate what your mortgage payment will be based on the interest rate, downpayment, and principal.
Monthly Mortgage Payment Components:
The monthly mortgage payment is primarily derived from the following components:
◼︎ The amount borrowed from the bank. This is usually the price of the home.
◼︎ The percentage of the loan amount that is paid upfront. This reduces the amount of money that is required to be paid back over time.
◼︎ The interest rate of the loan.
◼︎ The amount of time over which the loan will be paid back. Usually 15 or 30 years (180 or 360 months).
Annual Property Tax
◼︎ Every property owner is required to pay a tax to the governing authorities. Although there may be slight variations across states, the average rate of annual property tax in the US is between 1-4% of the property value.
Annual Home Insurance
◼︎ It is an insurance policy that protects a homeowner from possible accidents to the property, although it may include personal liability coverage – a form of protection against lawsuits emanating from injuries sustained on and off the property. The lender will require the owner purchase home insurance. This will be included in the mortgage.
Annual HOA Fee
◼︎ The property owner is often required to pay a certain amount to an organization that oversees the maintenance and improvement of the neighborhood the home is located in. The value is usually less than 1% of the property value annually.
Private Mortgage Insurance
◼︎ It is an insurance policy that protects the mortgage lender if the borrower fails to repay the mortgage. It ranges from 0.3-1.5% of the loan amount annually, and the exact price depends on factors like the credit of the borrower, the size of the loan, and down payment. If a down payment of less than 20% is made, then PMI will be added to your mortgage payment.
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