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What
is a Mortgage?
A mortgage is the most common form of financing for real estate
transactions. A mortgage is a legal contract between mortgagee
which is generally a bank or other lending institution and a
mortgagor which is the borrower. This legal document contains
the amount of money borrowed to buy the property and the
interest rate that applies. The piece of property is used as
collateral in a mortgage. There are many types of mortgages with
some of the popular ones being, fixed, adjustable,
graduated-payment, graduated-equity, shared-appreciation, and
balloon mortgages
Fixed-Rate Mortgage
A fixed-rate mortgage is a mortgage where the interest rate on
the loan remains the same throughout the lifetime of the loan.
It is by far the most popular type of mortgage. It is stable and
provides little to no risk like some other mortgages that are
not fixed. The advantage is that monthly payments will remain the
same. However, if you lock into a higher interest rate, the rate
will not change, even if interest rates go down in the future.
The lowest monthly payments come from 30-year fixed-rate
mortgages. However, these mortgages also take longest to
build up equity in your home. Experts recommend a 30-year
mortgage if you are planning to stay in your home for several
years and want a stable rate.
Also common are 15-year fixed-rate mortgages. These loans
spread the principal and interest across a 15-year period, after
which you have paid off your loan. Because of the shorter term
of the loan, you can build up equity in your home at a much
faster pace. However, monthly payments are higher than for a
30-year fixed-rate mortgage. Experts recommend a 15-year
fixed-rate mortgage if you are planning to sell your home in a
few years and want a stable rate.
Adjustable-Rate Mortgage
Adjustable-Rate Mortgages, or ARMs as they are commonly called,
are ones in which the interest rate changes periodically
according to a fixed index. This type of mortgage is best suited
for those whose can afford to take the risk of interest rate
change. If the interest rate goes up during the period of your
mortgage your payments will also go up, however; if the interest
rate goes down your payments will decrease. A 1-year ARM
adjusts the interest rate annually. Monthly payments will
increase or decrease along with the index rate, which is
specified by the mortgage. Common indices include 1-year
Treasury notes, Federal funds rate and the national cost of
funds index. A margin -- usually one or two percentage points --
is added to the index rate.
Adjustable-rate mortgages include two caps on the amount
the rate can increase or decrease. One cap limits the
interest rate adjustment in any one adjustment period
(e.g. one year in a one-year ARM), and the second cap
limits the interest rate adjustment across the lifetime of
the loan.
The advantage of an adjustable-rate mortgage is that monthly
payments can decrease when the index goes down. However, monthly
payments will increase when the index goes up.
One way of shortening the length of your mortgage is to purchase
a balloon mortgage. It works like an ARM or a fixed-rate
mortgage for the first several years. After that period of time
has expired, you owe a large payment -- sometimes the remaining
balance on the loan. The advantage of this type of loan is that
it keeps monthly payments low. Experts recommend this type of
loan for people who are planning to sell their homes within a
few years, and can pay off the balloon payment from the proceeds
of the sale of the house. There are two categories of
adjustable-rate mortgages, one year adjustable are adjust
annually and the others are set up by you and the lender on a
schedule of when the adjustment will occur. Adjustable-rate
mortgages run for 1, 3, 5, 7, or 10 years.
Balloon Mortgage
A balloon mortgage if it can be obtained can be a very risky way
to finance a piece of property. Balloon mortgages are generally
not available from lenders. If one is obtained it is usually
from the seller of the property. A balloon mortgage requires
that interest be paid over a period of time and at the end of
the set amount of time the entire principle in due. This is very
risky because if the borrower is unable to pay the principle at
the time or find financing the borrower could lose all the money
that is invested in the property.
A convertible Mortgage
A convertible loan is an ARM that can be converted to
a fixed-rate mortgage after a specified number of years. There
may be a cost associated with this.
Second Mortgages
The amount of Second Mortgage Loans may be up to 100 percent of
the estimated value of the property less the amount of any first
mortgage. A Second Mortgage Installment Loan places an
additional mortgage on your home, but the money usually comes in
a lump sum, rather than in a series of advances made available
by writing checks on an account. Second Mortgages typically have
fixed interest rates and fixed payment amounts.
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