WHY A MORTGAGE GLOSSARY?
Starts your head spinning when you're thinking about mortgages? Do you feel intimidated and overwhelmed by this new language? Don't panic! 1st Trust Financial, LLC is here to help!
Nobody is expecting you to know the mortgage process from the inside and out. If you have questions about any term during the application process, don't hesitate and ask us. We're here to navigate you through the process successfully and efficiently!
However, in our opinion it's vital to have a general understanding of common mortgage terms and basics. Education is key! The more you know, the more you understand what is happening and why, the less stressful the home buying and mortgage process will be!
That's why we put together this mortgage glossary with the most common and important terminology to help you getting more comfortable.
AMORTIZATION
Did you know that the word “amortization” comes from Middle English “amortisen,” meaning to kill or alienate and from the Latin words “ad” and “mort,” meaning death?
Amortization of the loan is describing the schedule on how the loan is intended to be repaid. For example, a typical amortization schedule for a 30 year loan will include the amount borrowed, interest rate paid and term. The result will be a monthly breakdown of how much interest you pay and how much is paid on the amount borrowed.
A fully amortized loan will be completely paid off at the end of the loan term. Most home loans amortize, but some mortgage loans do not fully amortize and may require a large, lump sum “balloon” payment at the end of the loan term.
The table below gives you an example of an amortization schedule for the first 7 month of a 30 year mortgage in the amount of $150,000 and an APR of 4.0%
APPRAISAL
An appraisal is an unbiased estimate of value of real property. All lenders order an appraisal during the mortgage process to ensure that the amount of money requested by the borrower is appropriate and that the property has sufficient value to support the mortgage debt. Appraisals also help to protect you as the borrower from overpaying for your next home by determining a property's real market value. An appraisal can only be completed by a certified professional called an "appraiser".
Common appraisal approaches are:
* Sales Comparison Approach
* Cost Approach
* Income Approach
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APR - Annual Percentage Rate
The Annual Percentage Rate reflects the annual rate that is charged for borrowing money from the lender expressed as a percentage. Unlike an interest rate it factors in other charges or fees - such as mortgage insurance, discount points, most closing costs and loan origination fees and reflects the actual total yearly cost of funds over the term of the loan.
ARM - Adjustable - Rate Mortgage
While fixed-rate mortgages keep the same interest rate for the life of the loan an adjustable- rate mortgage is a mortgage with a variable rate. The initial rate is fixed for a period of time - typically 3 to 10 years and is generally lower than that of a comparable fixed- rate mortgage. The interest rate then may adjust each year thereafter once the initial fixed period ends. For example, with a 3/1 ARM loan for a 30-year term, your interest rate would be fixed for the initial 3 years and could fluctuate up or down each subsequent year for the next 27 years. However, all adjustable- rate mortgages have a lifetime cap which puts a limit on the interest rate increase over the life of the loan.
CTC - CLEAR TO CLOSE
" Clear to close " describes one of the final stages before your loan is funded. In other words, the mortgage lender is ready to close on your loan. All outstanding conditions have been met and the underwriter has reviewed and approved all necessary documents.
CLOSING COSTS
Closing costs are a combination of expenses and fees over and above the price of the property that are required to process and close your loan application. They are paid when the property is transferred from one owner to another.
Closing costs may include but are not limited to origination fee, property taxes, transfer taxes, charges for title insurance and escrow costs, discount points, appraisal fees, recording fees, homeowner's insurance etc.
In PA closing costs can vary between 1%-7% of the sale price, though seller usually cover 1%-3%.
DISCOUNT POINTS
Discount points are considered a form of a fee you pay at closing to lower your interest rate. By paying points, you pay more upfront, but you receive a lower interest rate and therefore pay less over the lifetime of your loan.
One discount point equals one percent of the loan amount. For example, 1 point on a $200,000 mortgage would cost $2,000. Be aware that points don’t have to be round numbers. You can pay, for example, 1.775 points ($1,775 per $100,000 loan) or 0.5 points ($500 per $100,000 loan).
Below chart shows an example how points influence your mortgage payments. In the example, you borrow $180,000 and qualify for a 30-year fixed-rate loan at an interest rate of 5.0% with zero points. In the first column, you choose to pay points to reduce your rate. In third column, you choose to receive lender credits to reduce your closing costs. In the middle column, you do neither.
DOWN PAYMENT
Your down payment is an initial, upfront payment, often made in cash, and basically the part of your home’s purchase price that does not come from a mortgage lender via your loan.
purchase price - mortgage
= down payment
Depending on the loan program your down payment can be as low as 3%.
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DTI - Debt- to- Income ratio
Your DTI is a comparison how much you owe with how much you earn in a given month. It's expressed as a percentage. The Debt- to Income ratio is alongside with your credit scores one of the important factors lenders take a look at when deciding if they will lend you money. Lenders generally prefer borrowers with a lower DTI because that means less risk that you’ll default on your loan. For you as a potential future homeowner DTI helps to determine what you can truly afford.
Formula:
DTI = total minimum monthly debt/
monthly gross income
During the mortgage process the lender will typically look at two different types of DTI:
Front and back- end DTI.
Example: Let's say you're making $7,000 monthly gross income and you would like to find out if you can afford a $1,500 mortgage.
Front- end DTI = $1,500/ $7,000 = 21.4%
Since your front- end DTI should be 28% or lower your lender will be more willing to approve your mortgage application.
In order to calculate your back- end DTI you add all your monthly debts together and divide them by your monthly gross income.
EQUITY
Home equity is the amount of ownership you have in your home. It's the value of your property after the deduction of charges against it. As you make your monthly payments the equity on your home increases, because you own more of it.
For example, if you're buying a house for $300,000, paying $50,000 down, and borrowing $250,000 your equity in your house is $50,000.
LTV - Loan- to- value ratio
The acronym LTV stands for Loan-To-Value ratio and describes the correlation between the actual loan amount and the value of your property expressed as a percentage. LTV is one of the main numbers lender look at when making the decision to approve you for a home purchase or a refinance. Understanding LTV and how it’s calculated is crucial to making an educated decision about your loan terms.
Example:
Your home has a value of $400,000 and you have a mortgage for $315,000. In order to get the LTV you simply divide the loan amount by the value amount of your home (sales price or appraised price - whatever is lower).
$320,000/ $400,000 = 79%
PMI - Private Mortgage Insurance
PMI is a type of insurance on conventional loans usually required by the lender if you pay less than 20% down. In case you default on your mortgage PMI protects the lender.
However, PMI makes it possible for some people to become homeowner's sooner. The insurance premium has to be paid monthly until you've accumulated enough equity (+ 20%) and you're no longer considered "high- risk".
PITI - Principal - Interest - Taxes - Insurance
Did you know that property taxes and homeowner's insurance can nearly double your monthly expenses? As a homeowner you should be aware of your total monthly cost and not just principal and interest. Knowing your PITI payment is crucial and helps you determine how much house you can really afford.
RATE LOCK
Interest rates are unpredictable, but a rate lock can give you some serenity while waiting to close your loan. A rate look is a commitment from a lender to the borrower and secures a particular interest rate or keeps discount points available for a specific amount of time.
Some lender charge a fee for the rate lock. Most rate locks expire after 15 - 60 days and can be extended for an additional fee if the loan wasn't closed within the validity dates of the lock.
Example:
Let's assume your lender locks you at a rate of 3.25 % for 45 days and the rate rises up to 3.5% within the locked time period you will still get your loan with the lower rate. The lock can save you thousands of dollars.
Mortgage Rate Lock with Float Down
Some lenders will not only give you the peace of mind to protect your rate against an increase but also the flexibility to take advantage of a lower interest rate if one becomes available before you're closing on your loan. Understand that this service is not for free and may cost more than a simple rate lock. Make sure a rate lock with a float down provision makes senses for the possible savings involved.
REFINANCING
Refinancing means you're replacing your existing loan(s) with a new one. There are two different types of refinancing.
* rate and term refinance:
Exchanging your current loan for better terms, better rate or both better terms and rate.
* cash- out refinance:
You refinance for a higher loan amount than what you owe on your home.
With a cash- out refinance you pay off your existing mortgage and take out a larger mortgage using the equity in your home.
