Your Guide to Understanding the Mortgage Process
A mortgage is a loan on a property. A house mortgage is for your home. This loan is paid back over time with an interest rate you and the lender both agree on. It’s different than a traditional loan because the lender has the right to take the property if payments are not made. This can be called a lien on the property. You don’t fully own the property until you make the last payment. This is where the term paying off your mortgage comes from. The whole mortgage process can be a bit complicated.
A mortgage will likely be the largest debt you will have in your life but they also are a huge benefit. This can be seen in the statistical overview of mortgages in the USA. If you had to pay cash upfront for a home you wish to purchase, you may never get the opportunity. Mortgages can help keep interest rates moderated. Since the property serves as natural collateral for the loan, lenders are more flexible with the terms. Lenders don’t necessarily want to take the home but they are more reasonable since it gives them a safety net. It’s extremely important than you know what you’re doing throughout the entire process, so you wouldn’t make mistakes when taking out a mortgage.
Are You Ready to Buy a Home?
Buying a home is a big deal so it helps to know if you are really ready to buy a home before you begin the mortgage process. A mortgage is not something you want to take on lightly. You will need to make sure you can really afford the home you are buying. Many mortgage companies will approve you for a mortgage that you can struggle to pay every month.
Owning a home can be costly. You need a down payment, you need to pay off the mortgage every month, and you need to be prepared for added expenses. Before you start the mortgage process and consider buying a home, you will need money saved for unexpected expenses.
Since buying a home is an investment, you need to be ready to stay in the home for a while. You don’t need to spend the rest of your life in the home or that area but you should stay for at least five years so you can see growth on your investment.
It helps to know what you want in a home. Is it going to be home you settle down in and raise a family? Do you have a plan to sell a smaller house and buy a bigger one in the future? These questions are some of the ones you need to ask yourself before you start the mortgage process.
Types of Mortgages
There are different variations you can encounter as you start to search for a mortgage.
With a fixed-rate mortgage, monthly payments will stay the same throughout the life of the loan with some small adjustments based on changes to insurance or taxes. This is due to your interest rate staying the same throughout the life of the loan. This is a typical type of mortgage and can be referred to as a traditional mortgage. Payments can be structured so early payments go toward interest on the loan and your payments are applied to the principal of the loan over time.
Many adjustable-rate mortgages will start off as a hybrid. This means you commit to a lower interest rate for a fixed amount of time and then the interest rate will adjust based on the market. This means that in a few years you could be subjected to much higher interest rates than you anticipated.
These types of mortgages aren’t that common. For most of the loan, you will pay very little. At the end of the time specified by the terms, the full balance becomes due. This sort of mortgage will likely only makes sense if there are unusual circumstances that involve guaranteed funds down the road.
These mortgages are similar to the balloon ones but are structured so an increase in payments is more gradual. Borrowers will only pay interest for a predetermined period of time and then start paying the principal as well. This can be an option for first-time homebuyers who are just starting out in their careers.
Government-insured Home Loans
There are also government-insured home loans. Examples of conventional loans are the ones listed above and aren’t backed by the government.
Federal Housing Administration (FHA) Mortgages
These mortgages are backed by the government to protect lenders in the case of default. This will allow lenders to offer lower down payments and better terms. You will typically have to provide proof of insurance.
There are options for rural homebuyers from the USDA who meet certain requirements. They want borrowers with limited resources but who can still demonstrate a predictable income.
There is mortgage assistance to veterans as well as active military members and families. These work like an FHA loan and the government guarantees payment to the lenders to secure the best possible terms. There is also an option for no down payment.
Other Government Loans
Different loan options can vary from state to state and there are different programs to help certain people. You can always ask your realtor to see what could be available.
What Is the Mortgage Process?
The mortgage process will happen behind the scenes and some parts can be out of your control. However, there is a lot you can control to make sure you are in the position to get your home and close in a timely manner.
1. Get Your Credit in Check
Anytime you decide to get a loan, better credit will get you better loan terms, lower interest rates and less worrying down the line. This is especially important when you are getting a mortgage since it is probably the biggest loan you will ever get. If you need to improve your credit, this is the time to do it.
2. Getting Prequalified
Before you start searching for the right home, you should speak with a lender or a few different lenders to get prequalified for a mortgage. This will give you an idea of how much you can qualify for. You don’t want to spend time searching to find the perfect home and then realize down the line that you aren’t able to afford the home. The process is pretty straightforward and won’t go too far into your financial background. The lender conducts a soft credit check and looks at your current income and any debt you have. The entire process if free and can be a way to test the waters before you get a preapproval. This process can be done online or over the phone.
3. Choosing the Right Mortgage
With so many options you have when you start loan shopping, it’s important to find the right mortgage for you and your situation. This is the time to stop and really think about it since you will be paying off this mortgage for years to come. Even though you can pay off your mortgage faster, this is not the moment to think about it. Instead, you should find the most suitable mortgage type with terms that you are comfortable with.
4. Finding a Lender
Home shopping may be the fun part but you also need to do mortgage loan shopping. The right lender can be important to a positive home buying experience. Shop your options before you find a home since it will be easier to pay attention to things like closing costs and interest rates.
We are aware that it is important to find a trustworthy lender. Loanry connects you with reputable companies which may give you a mortgage loan if you qualify for it. You can check whether you qualify right now, by putting in your information here:
5. Gather Necessary Documents and Apply
The mortgage process requires a lot of documents and you will need to fill out a lot of paperwork. You want a lot of documents when you apply. This includes the names of employers from the past two years, recent pay stubs, two years of tax returns, W-2 forms form the past two years, proof of pension, any dividend earnings, bank statements, and information about other debts you have, such as student loans, credit card debt, and car loans. During the time you are getting all the documents, you can also use a mortgage calculator to see how much you can afford.
Once you have already gone through the prequalification process and determined that homeownership is the right step for you then it’s time to start the mortgage application. The first step is preapproval and this can signify to homeowners that you are serious about purchasing.
You can apply over the phone, in person, or online. Also, you shouldn’t limit yourself during this phase. You want to apply to two or more mortgage lenders. Every mortgage company and bank has different products with different rates. Even if you think you have the best possible loan, you could find a similar product with better rates.
Comparison is important to find the right mortgage for your situation. If this is the first time applying and you are a first time homebuyer, you should speak to a loan officer to make sure you are answering the questions correctly. If you incorrectly fill out the application, it will make getting approved harder.
What You Need for the Application
Every mortgage application will likely follow the same format and can be about five pages long. If you complete it in one sitting, it should take about an hour.
You will need to know the type of mortgage you are applying for. Determining the type of mortgage you need will also help you choose the right lender. You will need the property information if you have already selected a home.
You will need to provide borrower information, which includes your Social Security Number and information for any co-borrowers. This will also include monthly income and assets and liabilities. You may need to provide a lot more information depending on the lender. Once you have provided the information, there is then an acknowledgment and agreement where you sign on the dotted line to give the lender permission to verify information submitted with your application.
Once your application is approved then you get a preapproval letter. This is the lender’s way of saying that they will agree to lend you the amount of money specified. This letter will help narrow down your home search so you can make sure you can afford the property. It can also make your bid more attractive to the seller.
6. Underwriting the Loan
This process is the lender’s way of determining your ability to pay back the loan. This is the longest part of the process and can take a week to a month. It’s not always simple to give you a thumbs up or down for the mortgage process. It also determines the loan amount and the interest rate. Prior to the process, you will be required to submit many of the same documents that you used for preapproval and there may be more information needed. For instance, if a family member is giving you money for the down payment as a gift then the lender will need a gift letter to prove the money is a gift and not a loan you need to also pay back.
7. In the Meantime – Search for a Home
This is the fun part. You don’t want to find something wrong with every house but you shouldn’t jump at every opportunity. It helps to have a list of your must-haves, dislikes and wants so you don’t get caught up in the moment. Even if you modify your list along the way, it can help you stay focused and remember your home priorities.
When you are searching for a home, remember that you don’t have to use the full amount when it comes to your preapproval. It’s common for lenders to offer you the maximum amount that works on paper but this isn’t practical once real life kicks in and you have to make real payments each month. Just because you can spend that much doesn’t mean you should. Remember, you may want some extra money to make upgrades to the house once you move in. You also want to keep some savings for an emergency fund and if you need to make any home repairs.
Make an Offer
When you have found a home that is desirable and in your budget then you start to negotiate a purchase offer with the seller. For a first time buyer, it’s wise to negotiate with an experienced and trusted real estate agent during the process. A local real estate agent can have a good understanding of the land and can help you identify the right price for the home, as well as provide valuable negotiating experience. Once your offer is accepted then the seller produces a purchase contract that is signed. This contract is the green light to the lender to begin finalizing the loan.
Once you have gone through the underwriting process then it’s closing time and you get to finish the mortgage process. You will meet with different people, including a title company representative, the home seller, a closing agent, and the lender. A closing agent will make sure there are some things done before you can close on the home. He or she makes sure all the legal documents are signed and any escrow conditions are resolved.
There will be closing costs associated with the process. You will be required to make a wire transfer or provide a certified check to the lender for costs associated with underwriting and processing the mortgage. These costs can vary depending on the type of mortgage you have and the lender but will usually be 2% to 5% of the amount of the mortgage. These costs will include an application fee, attorney fee, home appraisal fee, inspector fees, credit check fees, and origination fees.
If you have difficulties following the process because of all the mortgage terms and definitions you may not know, it’s very important to find out what they all mean and understand every part of the process.
Do You Need to Be Preapproved for a Mortgage?
You may be using the terms prequalified and preapproved interchangeably but they are slightly different. Prequalification can be the first basic step in looking for a mortgage. It is intended to be informative and not a binding contract. It can show you how much money you could be approved to borrow. However, a preapproval letter will indicate to the seller that you are more serious about buying the home. It signals that any offer you make should be taken seriously.
When you get preapproval you are considered a qualified buyer. This also locks in your interest rate for 30 days and can help you determine how much your mortgage payments can be depending on the house you are interested in buying. If you have bad credit then it can be harder to get a preapproval. The only downside for preapproval is there will be a hard inquiry on your credit report. It really is in your best interest though to get this preapproval before you begin the process of looking for a home.
Do You Need a Down Payment for the Mortgage Process?
Lenders see a down payment as an investment in the home. Your down payment will significantly impact the amount of money you need to borrow. The higher the down payment then the less money you need to borrow. It can also determine if you will need private mortgage insurance (PMI). If you are using a down payment of less than 20% then the lender will require insurance. A lender doesn’t like to loan more than 80% of the value of the home. The insurance helps protect them. If you have a higher down payment, you may also be able to get a lower interest rate.
Where Should You Shop for a Mortgage?
There isn’t any harm in trying to begin the mortgage process at a local credit union or bank. However, today there are many options online. You can use plenty of online tools to help you look at different rates and different qualification options. This way you are sure to find a mortgage that suits your needs and one that you will be able to afford.
Tips for Paying Off a Mortgage Quicker
If you want to pay off your mortgage faster, you need to check with your lender to understand any limitations or rules about it. You may assume that the lender will be happy to have you pay more but that isn’t always the case.
Figure Out Where Extra Money Can Come From
You will likely need some extra money to pay off your mortgage faster so figure out where this is going to come from. Are you going to cut back on entertainment? Are you going to take your lunch to work instead of eating out? If you aren’t able to save enough to start making a dent in a home payment then try paying off your other debts at an accelerated rate. Once those are paid off, you can apply that money to what you are paying on your mortgage.
If you pay exactly half the amount due each month then this will shave interest over time and pay an additional half month each calendar year.
Pay Extra on Current Monthly Payments
You can request the extra amount you pay to be applied to principal. Even a few hundred dollars on the principal can save a lot in interest.
Put Bonuses or Tax Refunds toward the Mortgage
Instead of using your tax refund or another unexpected source of money like a bonus for other things, put it toward your mortgage.
Consider Less than 30 Years
If you can manage a 20-year mortgage instead of a 30-year one then you should do it. It’s even better if you can manage to shave off 15 years. The easiest way to pay off a mortgage debt is to not have as much debt. Ask your lender about options for 15- or 20-year mortgages and see if those monthly payments are affordable.
When Should You Refinance Your Mortgage?
More people are starting to refinance their homes in order to help with financial problems. Refinancing a mortgage is repaying off an existing mortgage and replacing it with a new one. This is done in cases where the loan is too expensive or too risky. The details of a new mortgage will be based on a mutual agreement by both the borrower and the lender and can be customized for meeting the needs of a borrower.
Secure a Lower Interest Rate
This is one of the more common reasons why someone would choose to refinance the mortgage. If you replace a high-interest mortgage with a low-interest one then you can save a lot of money. This decision will be influenced by daily mortgage rates.
Shorten or Increase the Loan Term
With a new loan term, there can be an impact on both the monthly payments and interest. A short loan term can reduce the interest but increase the monthly payments. A longer term has the opposite effect.
Lower Monthly Payment
If you are facing a cash flow issue then you may want to consider refinancing so you can lower your monthly payments. This can help you still repay the loan without straining your monthly budget and avoid the possibility of defaulting and the lender selling your home.
Consolidate Debt or Tap into Equity
This can be a cause of never-ending debt but it can still be a reason why you may want to refinance. You can access the equity in your home to cover some expenses, such as college education or home remodeling. Some borrowers want to refinance the mortgage to consolidate debt to make it easier to pay off.
Switch Mortgage Type
Since there are different types of mortgages, if your financial situation changes, you can refinance your mortgage in order to take advantage of new opportunities.
There are also some bad reasons for you to refinance your mortgage. If it’s to take advantage of no-cost finance, know that this generally doesn’t exist. If these costs are wrapped up in the loan then the size of the principal increases. Some people also want to have lower monthly payments to save money for a new home. Before doing this, borrowers should calculate how much a refinance will cost and how much it saves them each month in order to determine if it is worth the effort.
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How to Increase Your Chances of Being Approved for Refinancing or a Mortgage
If you have submitted an application for refinancing, it can be frustrating to have it be rejected. When it’s time to refinance you want to do everything you can to make sure that it is approved.
Borrowers should check their credit score and then take the time to see whether there are any errors or inconsistencies. These inconsistencies or errors should be reported to a credit reporting agency. It’s also important to pay bills and other outstanding debts on time to improve a credit score. Having a good credit score will help you save on interest so it’s a good idea to improve your credit score as much as you can before applying.
Increase Your Income
Increasing your income is one of the ways you can make sure that you can afford the mortgage you want. Borrowers who have been at their jobs for a while can ask for a raise. Some other options include starting freelance work or getting a part-time job in order to supplement income.
Use a Cosigner
A cosigner can boost your creditworthiness, which means it increases your chances of being approved. It’s important the cosigner has good credit and a sufficient income. You still need to consider whether you can make all the payments on time so you don’t mess up your credit and the credit of your cosigner.
Can You Get a Mortgage with Bad Credit?
The mortgage process can be complicated enough but it does get more complicated with bad credit. Your credit score will directly impact the interest rate you will get. When you are getting a mortgage with a bad credit score it is referred to as a subprime mortgage loan. These loans refer to a loan extended to a borrower that is a higher risk. A prime borrower is low risk because he or she has a high credit score, low debt, and a good income.
There are two different situations that apply where you could be considered a subprime borrower. This is either with no established credit or poor credit.
A person who hasn’t borrowed before has no credit. Borrowing money is one of the only ways to build credit. The fix is to establish credit with a major or store credit card or a small loan. Once you make payments on time, you start to build credit.
Someone who has poor credit may have experienced problems with repaying debt or have too many loans out that affect their debt-to-loan ratio. There is a lot that goes into determining your credit score. Each credit reporting agency uses a different algorithm. Some of the data points include causes of non-payment, kinds of credit accounts you have, length of credit history, how many inquiries have been made on the report, and any bad credit behavior.
Subprime rates and prime rates refer to the interest on the mortgage. Getting a loan at a prime rate will mean that you can have a better interest rate. A subprime rate has a higher interest rate.
If you are married, this doesn’t mean you have to take out a mortgage together. You may think that you have to put both names on the loan application but you don’t. This can be good news for couples that have different scores. You can get a lower interest rate if the borrower who has the higher credit score applies for the loan. Instead of applying as joint borrowers, you can save yourself some money. This will mean that they will only consider the income of the applicant but you know that you have two incomes that can pay for the monthly costs. When two people apply then the loan officer will have to base the interest rate on the lower score, which can mean higher interest rates. You may be better off saving some of the money and only have one borrower apply.
What Do You Need to Know about Interest Rates?
One of the most important parts of the mortgage process is the interest rate. This is why it’s so important to go rate shopping. Every mortgage will have an interest rate attached to it. Your credit score has a big impact on the interest rate when it comes to mortgages. You won’t ever be able to find a mortgage that has an interest rate of zero. Interest is what the lender will charge you for borrowing money from them. The amount of loan money you borrow is called the principal amount. Interest is then added to that.
If you know what an interest rate is, then you need to know how it impacts you. Using a loan calculator, you can see that if your score is above 760 then you can save almost $200 every month for a traditional mortgage of $200,000. That can add up to a lot in a 30-year loan.
The mortgage process can be a little overwhelming when you first start out. However, it’s important to take it one step at a time. Start by deciding if homeownership is right for you and then take it from there. Prequalification and preapproval can be important first steps in the mortgage process and it helps to know what kind of mortgage you want. Having a down payment is an important part and you are likely to get better interest rates when you put more down.
The mortgage process can also involve refinancing and this can be necessary when you want a lower interest rate or different payment terms. It is possible to get a mortgage with poor credit but your interest rate can be much higher. Interest rates can have a big impact on how much you are paying over the life of the loan so finding the lowest interest rate will be the most beneficial.
Kevin Strauss is a personal finance writer and homeowner based in the Los Angeles area. Being in one of the most expensive markets in the country, he’s learned to maximize resources to plan for both his monthly expenses and future financial needs. Kevin has a passion for helping those in a similar situation navigate the complex world of personal finance so they can pay down debt, plan for the future and live out their dreams. In addition to covering personal finance in depth on Loanry.com, Cashry.com, Debtry.com, Budgetry.com, Billry.com, Creditry.com and Taxry.com. Kevin shares his expertise with readers who want to create budget-friendly habits across the web.