9 Common Mortgage Terms Defined
When you're ready to buy your dream home, understanding your mortgage options is key to securing a loan that works for your finances. But confusing mortgage terms can leave you feeling overwhelmed. Unless you become familiar with some of the jargon, it becomes difficult to navigate the homebuying process. Fortunately, you don't need to take a real estate course to learn essential vocabulary and concepts. Here are the most common mortgage terms you'll encounter on your path to homeownership.
1. Adjustable-Rate Mortgage (ARM)
An adjustable-rate mortgage is often called an "ARM". This type of home loan allows borrowers to benefit from specific market interest rate changes. Homebuyers who choose this loan often expect interest rates to decrease over the life of the loan.
An ARM Program Disclosure details rate change limits, lifetime caps, and other terms of the loan. You can request a disclosure from the lender at the time of application.
2. Fixed-Rate Mortgage
A fixed-rate mortgage is a home loan that provides the borrower with a stable principal and interest payment over the life of the loan. Borrowers commonly choose between a loan term of 30 or 15 years. Longer term loans result in lower payments. Shorter terms may mean higher payments but allow you to build equity sooner and pay less in interest charges.
Equity is the difference between the market value of the property minus the amount owed on the property.
4. Mortgage Pre-Qualification
A basic review of your finances can be all it takes to receive a mortgage pre-qualification. Mortgage lenders may only require verbal confirmation of your income, assets, debts, and down payment before determining the maximum loan for which you might qualify. A pre-qualification is not a guarantee you will be eligible for a particular loan program. For that, you will need to complete a mortgage pre-approval or full mortgage loan application.
5. Mortgage Pre-Approval
A mortgage pre-approval is a deep dive into your financial status. This requires a lender to perform a formal review of your credit history and finances. The process requires you to provide documentation to verify income, assets, and your available down payment. The mortgage will not be finalized until closing, but a pre-approval can help negotiate the home's purchase.
6. DTI Ratio
If you owe more debt than your income can handle, adding a mortgage payment isn't a good idea. Lenders use a debt-to-income (DTI) ratio to assess the risk of approving your mortgage based on your debt load and income level. Calculations and minimum thresholds vary, with some lenders accepting DTIs up to 43%. You can improve your DTI by increasing your income or reducing your debt.
This is the last step in the mortgage loan process. The seller, buyer, lender, and real estate agents meet to finalize the transaction. At this point, negotiations have ceased, financing is in place, and you're ready to receive the keys to your new home.
P = Principal
I = Interest
T = Taxes
I = Insurance
This four-letter acronym describes each part of your monthly mortgage payment.
Principal and interest make up the amount you borrowed (principal) plus the cost of borrowing that amount (interest) according to the repayment schedule.
Taxes include property taxes based on your home's assessed value. This might differ from the home's market value.
Most lenders require borrowers to carry a homeowner's insurance policy. If you put less than 20% down on your new home, you may also have to pay private mortgage insurance.
The taxes and insurance portions of your payment are usually placed in an escrow account and paid on your behalf as they become due.
Private mortgage insurance (PMI) protects the mortgage lender against loss if you fail to make payments (default) on the loan. As long as the loan amount is 80% or more of its value, you may have to pay this insurance with each mortgage payment.
If you have any questions regarding the mortgage loan process or any of these mortgage terms, please give us a call at 800-444-4816 to speak to a Member Advocate.
Article by Tracy Scott