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Mortgage Basics Everyone Should Know

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For most people purchasing their home is their single largest purchase. What you may not know is real estate is a great investment. The buying process is stressful but it’s definitely worthwhile. 🙂

So how do most of us manage to pay for our home? Around a third of homebuyers pay cash when they buy a home, meaning two-thirds of home buyers need a mortgage.

Plus, it’s no surprise that almost all first-time home buyers have to have a mortgage to buy their first home.  If you’re keen to get on the property ladder, this article is for you. Here are the mortgage basics everyone should know.

Pre-Qualified and Pre-Approved Explained

A surprising number of first-time buyers confuse the terms pre-qualified with pre-approved. However, they’re not alone. Even experienced homebuyers make a mistake.

Homebuyers who have been through a house purchase also often forget that pre-qualification is only the first step in the mortgage application process. While you as a home buyer may be confident that your pre-qualified status is enough to start searching for a property to buy, many home sellers won’t show the home unless the potential buyers are pre-approved and have a letter to prove it.

There is an extra step to getting pre-approved with your bank or a specialist home loan leader e.g. the Money Store. It may pay to get pre-approval from more than one lender so you have a back up should one lender change their terms for the loan.

Most Popular Types of Mortgages

There are two main types of mortgages: fixed-rate and variable rate.

Variable

Variable-rate mortgages often have a lower interest rate, but they may go too high if we start to experience rapid inflation. Your house payment will go up, too.

Fixed

Fixed-rate mortgages tend to be somewhat higher than the stated interest rate, but your house payment will remain the same over the life of the loan. While you can refinance a variable rate mortgage into a fixed-rate mortgage, you can’t guarantee that you can refinance when you need to do so. Furthermore, there will be fees involved when you refinance, too.

Seller Finance

Seller-financing is the term used when the home seller offers to finance the purchase of the property. This is problematic for several reasons.

First, you can probably get a better interest rate from a bank or credit union. And if you can’t, you probably shouldn’t be buying real estate right now.

Second, there are many ways these deals can go wrong. For example, you might lose all of the property’s equity if you miss a payment because the contrast treats you as a renter until you pay the entire amount. The deed may not be signed over to you until you pay it off, too. This means you could lose the house if the property owner is sued or dies.

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One solution to this is having a good real estate attorney review the sale agreement and the mortgage contract. An even better one is getting a conventional mortgage with an established financial institution.

Purchase Costs

The mortgage is often required to cover more than the property’s purchase price. It’s not unusual for homebuyers to get blindsided by the costs they have to pay upfront to secure the mortgage and the other costs associated with the property purchase.

Property purchase costs include:

  • loan application – the lender may include application fees
  • property appraisals – the lender may require a registered valuer to provide an appraisal of the property
  • inspections – building inspections to check condition. For example, a professional engineer may need to check the building’s foundation and/or a surveyor may be required to verify the boundaries on a large parcel
  • legal conveyancing – the sales and purchase agreement, including a title check and update

The existing loan amount can cover property purchase costs. However, this will reduce what’s available for the actual purchase.

Ideally, the purchaser will have extra funds available to cover purchase costs, so the full mortgage amount is available for the purchase or increases the loan amount.

The seller typically pays realtor fees, so this is not a cost to the purchaser.

Mortgage Terms

A 30-year mortgage comes with lower payments than a 15-year mortgage, but you will pay for tens of thousands of additional interest over the life of the loan.

In general, the shorter the mortgage term, the faster equity can grow as the property value goes up. For example, it is better to sign up for a fifteen-year mortgage than a thirty, with the 15-year term you’ve committed to paying down the principal of the loan within fifteen years.

On the other hand, it’s important to know beforehand if you can afford to commit to a shorter mortgage term. For example, you don’t want to commit to repayments that consume too much of your take-home pay, so you are left with very little cash flow for living expenses.

If you commit to a longer mortgage term, one possible solution is putting more money down on the property when you have it. For example, you may pay off a lump sum every couple of years, and this will reduce your mortgage term if you commit the same repayments.

Another solution is to buy a smaller and/or cheaper property, so your mortgage is smaller, and you can commit to a shorter term.

A third option is to shop around for the best interest rate and, when you get a better deal, still commit to the same repayments, so more is added to the principal repayment.

Summary

The mortgage is the most stressful part of buying a home. Run the numbers. Explore your options and don’t get mortgaged to the hilt.  You want to enjoy your dream home, not find out it has become a nightmare. When seeking a loan, always get professional financial advice.

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