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Mortgage Primer
It's important that you embark on your home-buying adventure with a full understanding of what to expect of the financing process. Unprepared buyers can quickly become discouraged or feel overwhelmed by the decisions they face. An informed buyer, on the other hand, is more likely to make sound financial decisions that ensure the best possible buying experience.
For a quick pre-approval, click here.
For a tutorial about the mortgage process, click the links below, or scroll down.
Pre-approval and pre-qualification
During your real estate search, what could be more comforting than the peace of mind that comes with a fully approved mortgage? This process will enable you to know exactly how much you can spend, so you won't waste time bidding on properties you can't finance.
A pre-approval can also help you close your loan more quickly. Sellers are more apt to negotiate with someone who already has a pre-approval letter in hand. If two or more buyers bid on the same property, the seller will likely choose the one with a pre-approval letter. This mitigates the seller’s risk of taking the property off the market and then having the loan fall through.
The three main things a lender will consider in determining pre-approval are:
- Your credit score.
- Your ability to pay (as determined by your current income and debt).
- The equity (or down payment) you are putting into the home.
Pre-approval requires only basic information from you and query of online credit reports. Pre-approval is a true commitment from the lender to finance your property, and an indication of the total mortgage amount available to you. Numerous lenders can help you through the pre-approval process. If you need guidance, ask your Realtor to refer you. For a quick pre-approval, click here.
Pre-qualification, on the other hand, is not a full mortgage approval, but an estimate of what you can afford based on your monthly income, debts, credit history, and assets. Pre-qualification does not guarantee that the lender will actually finance your purchase.
For a quick pre-approval, click here.
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Down payments
How much of a down payment are you willing and able to make? Lenders offer a wide variety of options that you may qualify for, including no-money-down options that require no down payment and can even wrap your property's closing costs into the loan itself. Your loan officer can help you decide how much of a down payment is right for you.
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Documents needed for a mortgage
When you apply for a mortgage, you will need to furnish information regarding your income, expenses, and obligations. It will save you time if you have the following items available:
- Three months' worth of pay stubs.
- W-2s for the past two years.
- Federal tax returns for the past two years.
- Bank statements for the past three months.
- The most recent two statements from your 401k, IRA, other retirement accounts, and savings accounts.
- Cancelled checks or receipts from your current rent or mortgage, or a letter from your landlord verifying your rental history.
- Information on your long-term debt, including credit cards, child support, auto loans, installment debt, etc.
- Information and statements regarding your investments, stocks, bonds and other holdings.
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Loan approval process
The amount of time it takes for a lender to approve your mortgage depends on how quickly they receive a property appraisal, your credit reports, and verification of employment and bank accounts. Here are the steps you can expect:
- You complete the loan application and pay any required fees to the lender, which can include an application fee and an appraisal fee.
- The lender begins processing the application.
- The lender requests an appraisal of the home, credit reports, and verification of employment and assets.
- The lender will give you a good-faith estimate of your anticipated monthly payments, closing costs, and other costs.
- The lender issues a detailed estimate of your loan costs, in the form of an Initial Truth in Lending Disclosure Statement (Reg Z).
- The lender evaluates the loan, along with supporting documentation, and approves the loan.
- You and the seller sign the closing documents, and the loan is funded.
- The lender disburses the funds to the settlement or closing agent, who pays the seller and transfers the title of the property to you.
- The appropriate documents are recorded at the county courthouse.
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Mortgage payments
Payments usually start 30 days after the closing date. Your monthly payments include principal and interest, and may include property taxes and insurance, depending on your preferences and lender requirements. As a general rule of thumb, you can estimate your total payment to be one percent of the property's sales price. Of course, the amount of your monthly payment will vary depending on the sales price, down payment, interest rate, and other factors. Early in the loan process, your lender will provide you with a good-faith estimate of what your monthly payment will include.
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Types of mortgages
Banks, mortgage companies, and credit unions offer a wide range of mortgages to meet the needs of almost every buyer. Your lender can help you determine which type of mortgage is best for you. You can also contact a mortgage broker, who will act as a personal shopper for you (for a fee), helping you find the most favorable terms and interest rates. Our Coldwell Banker staff includes experienced lenders and mortgage brokers who can answer your questions. Contact us for more information.
A fixed-rate mortgage is the traditional method of financing a home. The interest rate stays the same for the entire term of the loan – usually 15 to 30 years – so the interest and principal portions of your monthly payments remain constant throughout the life of the mortgage. Your payments are stable and predictable, but interest rates tend to be higher on fixed-rate mortgages than on adjustable rate loans. Many fixed-rate mortgages cannot be assumed by someone buying your property.
With an adjustable rate mortgage (ARM), the interest is linked to a financial index, such as a Treasury security, so your monthly payments can vary over the life of a loan – usually 25 to 30 years. To protect borrowers, most adjustable rate mortgages have a lifetime cap on interest rate increases.
The lower initial payments for ARMs make it easier for buyers to qualify for loans, especially if there is a reasonable expectation that a borrower's income will increase during the life of the loan. Some ARMs can be converted to fixed-rate mortgages at specified times, usually within the first five years.
VA and FHA loans are subject to special government regulations and restrictions.
Rehab loans allow you to borrow additional money, which is typically held in escrow to make necessary repairs.
Balloon loans, usually 5 - 7 years, allow you low payments up-front, but then you must pay the loan balance in one lump payment at the end of the term.
An assumable mortgage allows the seller to transfer the loan to the buyer, rather than using the proceeds from the sale to pay it off. This type of mortgage is rare and is restricted to very specific situations.
Jumbo mortgages exceed the mortgage limits set by Fannie Mae and Freddie Mac, and therefore are financed at higher interest rates.
A two-step mortgage has fixed terms for a specified number of years. Then it is adjusted based on current interest rates, and another fixed rate is established for the remainder of the term.
Seller financing can sometimes be arranged, enabling you to make direct payments to the seller. If you default, the property goes back to the seller. This type of loan usually offers less favorable terms than a traditional mortgage from a public lender.
With an interest-only loan, you pay interest only for a set number of years before you begin paying on the principal. This type of loan keeps your payments low, but you build no equity in the property until you actually start paying against the principal.
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Closing costs/fees
When you close on your property, you'll need to pay a number of costs and fees, depending on your contract with the seller and the requirements of your lenders. It is often possible to wrap these costs into your home loan. Your lender will provide you with a good faith estimate explaining the fees you'll be responsible for, which can include:
- Lender fees, including loan origination fees, appraisal fees, credit report fees.
- A deposit equal to 14 months of taxes and insurance on the property.
- Title company fees.
Mortgage payments are usually due on the first day of each month. If you close on another day, you can expect to pay pro-rated interest on the loan for the number of days remaining in the month.
- There are several additional fees you may need to pay during the buying process. Here are some typical costs:
- Earnest money is a down payment generally equal to 1 percent of the property’s sale price. This money is applied to your fees at closing.
- An option fee is a small sum, usually $100, paid to the seller to reserve a post-contract evaluation period. This money is applied to your fees at closing. During the option period, you (the buyer) can back out of the deal for any reason, forfeit the option money to the seller, and get a refund of the earnest money.
- Inspection fees are paid directly to the licensed inspectors you contract to evaluate the property for defects. In addition to a general building inspection, you'll typically need individual inspections for various systems such as heating and air conditioning, plumbing, and water well and septic system, if applicable.
- Survey fees to obtain an up-to-date survey of the property.
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Repairing credit problems
You don't have to have perfect credit to buy a property, but a lender is less likely to grant financing if you have too many blemishes on your credit history.
Some lenders will work with you to find a credit solution. They have special programs and options to help you get a mortgage, even with minor credit blemishes. However, it is in your best interest to keep your credit report in good standing.
Some situations may appear as red flags on your credit report, even if you didn't think there was a problem, such as:
- You co-signed a loan that wasn't paid on time.
- You allowed someone else to use your credit cards.
- You paid bills late, even if it was an honest mistake.
- You bounced a check.
- You recently applied for several credit cards.
You can get free copies of your credit report online at www.annualcreditreport.com or by contacting Equifax, Experian, and TransUnion.
If your lowest credit score is below 620, you may need to correct your credit history to qualify for a conforming mortgage. Numerous non-profit and for-profit companies can assist you in repairing your credit, but be sure to shop around so you can find a reputable service that won't overcharge you.
Here are some helpful hints for getting your credit back on track:
- Pay your bills within 14 days of the due date, no earlier and no later. This demonstrates that you can responsibly stick to a payment schedule.
- Commit to paying more than the amount due every month to reduce the amount of interest you pay and to cut the debt even faster. For example, if your department store bill is $30 a month, pay $60 until the bill is completely paid. Then add that same monthly $60 to the minimum payment on a credit card.
- Never allow an account to get more than 90 days past due.
- Keep your credit card debt below 50 percent of your monthly obligations.
- If paying bills after the due date, always pay within the grace period.
- If there's an item on your credit report that is inaccurate, call the credit company that issued the report and ask about their procedure to contest an item.
- Stop using your credit cards. Cut them up and cancel them, or if you can't make yourself part with them, freeze them in a block of ice so that you have to think about purchases before buying.
- Ask to have your car loan or other loans refinanced at lower interest rates.
- If you're in default on your student loans or credit cards, call your creditors to set up payment schedules that you can afford. Ask to have your interest rates reduced.
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Establishing Credit
Unfortunately, if you have no credit history, it can sometimes be just as hard to get a mortgage as if you have bad credit. Most lenders want to see that you have the ability to make payments over long periods of time.
However, some lenders offer special programs to help borrowers get a home, even without a credit history. These programs generally require proof that you've paid monthly expenses on time, such as rent, utilities, and car payments. You'll need to keep your receipts and/or provide a letter from your landlord, utility, or lender to verify these payments.
Fortunately, establishing credit isn't too difficult, as long as you follow a few guidelines:
- First of all, get your utilities such as water, electricity, gas, cable, and telephone put into your name, and pay the full amount due each month. If you have a student loan, be sure to pay on time.
- One of the easiest ways to establish credit is to get a credit card and use it responsibly. Unfortunately, lenders often penalize first-time borrowers with high interest rates of up to 18 percent or more. Also, credit bureaus are very interested in the number of times you apply for credit, so applying for several cards can lead to a black mark on your credit report.
- Before applying for or accepting any credit card, be sure to read the fine print so that you know the interest rate, grace period, and any annual or monthly fees. A credit card company might offer you a card with interest "as low as 5 percent," but if you read the fine print, you realize that offer is good only for highly qualified borrowers, and your interest could be much higher.
- Shop around for the best cards to apply for, with the lowest fees and interest. But take it slow and steady. Building credit is a gradual process. It's best to get one card, establish a steady payment schedule, and then trade in that card for another with more favorable terms.
- Gas credit cards are a good place for first-time borrowers to start. These cards typically require you to pay the balance in full each month, so you avoid interest charges and establish a steady payment history. Be sure to pay the bill in full within 14 days of the due date.
- Department store cards are also fairly easy for first-time borrowers to get, though they usually charge high interest. A good rule of thumb is to apply for one card and use it for regular purchases -- but never buy more than you can pay off in a single month. This way, you establish a history of regular payments, without racking up huge additional charges.
- You might also consider getting a secured credit card, which requires you to pay a deposit up front. You can then charge up to the amount of the deposit. As you establish a good payment history, your credit limit is gradually raised. But be careful. Secured cards can also come with the burden of fairly high interest, so, as with department store cards, don't charge more than you can afford to pay off in any given month, except in case of emergency. And switch to a conventional credit card as soon as you've established good enough credit to do so.
- Car payments are another good way to establish credit. Many car companies are willing to work with first-time buyers who lack a credit history. However, some penalize first-time buyers with double-digit interest rates. If your dealership or lender is unable to offer you a good interest rate, walk away from the deal and shop around until you find one who will. Doing so will make a huge difference to your bank balance. For example, if you buy a $10,000 car at 8 percent interest over 60 months, you'll end up paying a total of $12,165. At 18 percent interest, that same car will cost you $15,235.
- You can often get a lower interest rate on a credit card, car loan, or even a mortgage with a co-signer, if you're lucky enough to have a friend or relative with good credit who's willing to help you. A co-signer agrees to take on responsibility for your debt if you fail to pay. But here you need to be doubly careful; late or delinquent payments can ruin not only your credit, but your co-signer's credit, as well.
- Very importantly, at least six months before you apply for a mortgage, stop applying for other credit, and keep balances on your revolving accounts low or paid off in full.
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