A mortgage is a debt instrument, secured by the collateral of specified real estate property, that the borrower is obliged to pay back with a predetermined set of payments. Mortgages are used by individuals and businesses to make large real estate purchases without paying the entire value of the purchase up front. Over a period of many years, the borrower repays the loan, plus interest, until he/she eventually owns the property free and clear. Mortgages are also known as liens against property or claims on property. If the borrower stops paying the mortgage, the bank can foreclose.
In a residential mortgage, a home buyer pledges his or her house to the bank. The bank has a claim on the house should the home buyer default on paying the mortgage. In the case of a foreclosure, the bank may evict the home’s tenants and sell the house, using the income from the sale to clear the mortgage debt.
Mortgages come in many forms. With a fixed-rate mortgage, the borrower pays the same interest rate for the life of the loan. The monthly principal and interest payment never change from the first mortgage payment to the last. Most fixed-rate mortgages have a 15- or 30-year term. If market interest rates rise, the borrower’s payment does not change. If market interest rates drop significantly, the borrower may be able to secure that lower rate by refinancing the mortgage. A fixed-rate mortgage is also called a traditional mortgage.
With an adjustable-rate mortgage (ARM), the interest rate is fixed for an initial term, but then it fluctuates with market interest rates. The initial interest rate is often a below-market rate, which can make a mortgage seem more affordable than it really is. If interest rates increase later, the borrower may not be able to afford the higher monthly payments. Interest rates could also decrease, making an ARM less expensive. In either case, the monthly payments are unpredictable after the initial term.
Other less common types of mortgages, such as interest-only mortgages and payment-option ARMs, are best used by sophisticated borrowers. Many homeowners got into financial trouble with these types of mortgages during the housing bubble years.
When shopping for a mortgage, it is beneficial to use a mortgage calculator, as these tools can give you an idea of the interest rates for the mortgage you’re considering. Mortgage calculators can also help you calculate the total cost of interest over the life of the mortgage.
A mortgage banker is a company, individual or institution that originates mortgages. Mortgage bankers use their own funds, or funds borrowed from a warehouse lender, to fund mortgages. After a mortgage is originated, a mortgage banker might retain the mortgage in portfolio, or they might sell the mortgage to an investor. Additionally, after a mortgage is originated, a mortgage banker might service the mortgage, or they might sell the servicing rights to another financial institution. A mortgage banker’s primary business is to earn the fees associated with loan origination. Most mortgage bankers do not retain the mortgage in portfolio.
A mortgage broker gathers paperwork from a borrower and passes that paperwork along to a mortgage lender for underwriting and approval. The mortgage funds are loaned in the name of the mortgage lender, and the mortgage broker collects an *origination fee from the lender as compensation for services. A mortgage broker is not to be confused with a mortgage banker, which closes and funds a mortgage with its own funds. ( *An origination fee is an upfront fee charged by a lender for processing a new loan application, used as compensation for putting the loan in place. Origination fees are quoted as a percentage of the total loan and are generally between 0.5 and 1% on mortgage loans in the United States ).
A mortgage broker is an intermediary working with a borrower and a lender while qualifying the borrower for a mortgage. The broker gathers income, asset and employment documentation, a credit report and other information for assessing the borrower’s ability to secure financing. The broker determines an appropriate loan amount, loan-to-value ratio and the borrower’s ideal loan type, and then submits the loan to a lender for approval. The broker communicates with the borrower and the lender during the entire transaction.
Pros and Cons of Utilizing a Mortgage Broker
The mortgage broker works on a borrower’s behalf to find the lowest available mortgage rates and/or the best loan programs through numerous lenders. The broker saves the borrower much time during the application process and a potentially large amount of money over the life of the loan. However, the number of lenders a broker accesses varies by his approval to work with each lender; therefore, a borrower has access to lenders the broker does not. In contrast, a bank’s loan officer offers programs and mortgage rates from a single bank, lessening the borrower’s ability to compare loans and rates when compared with a mortgage broker.
Mortgage interest is the interest charged on a loan used to purchase a residence. Mortgage interest is charged for both primary and secondary loans, home equity loans, lines of credit, and as long as the residence is used to secure the loan.
Mortgage rates are the rate of interest charged on a mortgage. They are determined by the lender in most cases, and can be either fixed, stay the same for the term of the mortgage, or variable, fluctuate with a benchmark interest rate. Mortgage rates rise and fall with interest rates and can drastically affect the homebuyers’ market.
The biggest indicator for a high or low mortgage rate is the 10-year Treasury bond yield. If the bond yield rises, the mortgage rates rise as well. The inverse is the same; if the bond yield drops, the mortgage rate typically also drops. Even though most mortgages are calculated based on a 30-year timeframe, after 10 years, many mortgages are either paid off or refinanced for a new rate. Therefore, the 10-year Treasury bond yield is a good standard to judge.
Mortgage Credit Certificates
Mortgage credit certificates are certificates provided by the originating mortgage lender to the borrower that directly converts a portion of the mortgage interest paid by the borrower into a non-refundable tax credit. Mortgage credit certificates can be issued by either loan brokers or the lenders themselves, and are typically available only to low- or moderate-income buyers. These certificates are designed to help first-time homebuyers qualify for a home loan by reducing their tax liabilities below what they would otherwise have to pay.
Procedurally speaking, mortgage credit certificates are applied for with the originating lender after the purchase contract has been signed, but before the time of closing. A non-refundable fee is charged for this service by the party administering the program. The state or local approval that is granted can be valid for up to 120 days and is usually transferable to another property if the current loan does not close.
Mortgage insurance is an insurance policy that protects a mortgage lender or title holder in the event that the borrower defaults on payments, dies, or is otherwise unable to meet the contractual obligations of the mortgage. Mortgage insurance can refer to private mortgage insurance (PMI), mortgage life insurance, or mortgage title insurance. What these have in common is an obligation to make the lender or property holder whole in the event of specific cases of loss.
Private mortgage insurance may be called lender’s mortgage insurance (LMI) if the premium on a PMI policy is paid by the lender and not the borrower. This is typically done in exchange for a higher rate or fee structure on the mortgage itself.
Mortgage fraud, a financial crime, is intentionally falsifying information on a mortgage loan application. The intention of mortgage fraud is typically to receive a larger loan amount than would have been permitted if the application had been made honestly.
In addition to individuals partaking in mortgage fraud, large scale mortgage fraud schemes are not uncommon. Mortgage fraud is such a serious problem that the United States Department of Justice and Federal Bureau of Investigation (FBI) initiated Operation Malicious Mortgage. Penalties for mortgage fraud include fines, restitution and imprisonment up to 30 years.
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