Home Finance Information and Savings
Deciding how to finance your home is an important step for many individuals and families because your home will most likely become your biggest investment and asset. The money you invest into your home and to paying off your mortgage will help you build equity and increase your wealth should your home value increase. Before deciding to secure a mortgage, however, it is critical for you to fully understand how a mortgage works, the types of loans available to you, and how you can qualify for the best rates.
How a Mortgage Works
A mortgage is a loan you take out to pay for your home or other real estate You can typically obtain a mortgage loan through a bank, a mortgage broker, or a credit union. If you decide to take out a mortgage to finance your home, the property will be used as collateral. What this means is that if you fail to make your payments, the lender has the ability legally to take ownership of your home. Because of this, it is important that you feel confident that you can consistently make your mortgage payments.
Your Home Finance Options
To finance your home, you can choose from a variety of mortgage products. Below are the 3 most common mortgage products:
- Fixed rate mortgage - a fixed rate mortgage is a home financing option where the mortgage interest rate remains the same for the entire length of the loan. You can typically find fixed rate mortgages with terms of 10, 15, 20, 25, 30, or even up to 40 years. Most fixed rate mortgages are fully amortized, which means that you pay principal and interest with each payment until the loan is fully paid for.
- Adjustable rate mortgage (ARM) - an adjustable rate mortgage offers a fixed interest rate over a pre-determined period of time, usually ranging anywhere from 3 years to 10 years. After this period, the interest rate will change yearly based on the market conditions. With an adjustable rate mortgage, there is the risk that your interest rate could increase substantially.
- Adjustable rate interest only mortgage (ARM I.O.) - an interest only mortgage is a mortgage in which you pay only the monthly interest payment amount during the first few initial years. This means that the amount you owe on your mortgage loan (principal) does not decrease. The number of years where you pay interest only typically ranges from 5 to 10 years. After this period, however, you will have to start paying both interest and principal on an accelerated amortization schedule. Your interest rates will also change yearly based on the prevailing market conditions.
Getting the Best Home Finance Loan
The interest rate on your mortgage is determined by many factors ranging from the state you live in, your loan amount, the type of loan you choose, your credit rating, as well as others. Below are some of the key factors you should be aware off when shopping for a mortgage. Understanding why these factors affect the interest rates you receive from mortgage lenders can help you determine if you are getting the best deal available. Settling for a lower interest rate, even if the difference is small, can lead to thousands of dollars saved over the lifetime of the loan.
- Your credit rating is one of the most important factors in securing a home loan. Having a good credit score indicates to the lender you are able to stay current with your loan payments. The lender will view you as a low risk borrower and offer lower mortgage rates. If you have bad credit score, you may have to pay more to secure a loan. This usually means higher interest rates. It is also possible that you may struggle to find lenders who will offer you a loan due to your poor credit rating.
- Loan to Value Ratio (LTV) is the amount of money you borrowed relative to the value of your home. Generally speaking, the lower the LTV, the better the interest rates you will receive. If you have a LTV over 100, you may struggle to find loan options to finance your home.
- Debt to Income Ratio (DTI) is the percentage of your monthly income you used to pay off your monthly debt obligations, including your housing debt (principal, interest, tax, and insurance payment). Lenders look at this ratio to find out if you are able to afford making the mortgage payments each month. Lenders will not accept a DTI ratio over 45 (Fannie Mae guidelines). In general, having a lower DTI will result in better rates.
Shopping for Mortgage Rates
Although having the lowest mortgage rate is an important factor when considering how to finance your home, you should also take into consideration the lender you are working with. Besides offering competitive rates, the ideal mortgage lender or broker will take the time to help you understand the different financing options available for your home. You'll also want to go with a lender that is reputable and is financially stable. Use the Bills.com network of mortgage lenders to help you find your home loan.