Buying a home is an exciting venture, but if this is your first time—or even if it isn’t—it can come with a steep learning curve. Even common terms such as equity, PMI cost or refinance can be elusive if you’ve never heard them before. Partnering with a lender such as Solarity Credit Union that can guide you through the home loan process can help things go smoothly, but it’s always a good idea to be familiar with the basics before you begin. Here are 10 home loan vocabulary to start you off.
Simply put, a mortgage is a loan. When you obtain a mortgage, you agree to use the funds to purchase land, a home or another kind of real estate. The lender gives you the money to purchase the property, and the property serves as collateral for the loan. The borrower agrees to pay the lender back over a certain amount of time. During that period, the borrower makes payments on both the loan and the interest.
An important thing to know before you look for a home is how much you’ll be able to borrow. Pre-qualification is an enormously helpful tool to help you understand what type of home you can afford. In short, pre-qualification is an evaluation made by a lender like Solarity. They’ll look at your credit score, your debt-to-income ratio and how much you think you’ll be able to put toward a down payment. Based on this information, the lender will estimate the amount of the home loan you’ll likely qualify for. The lender will issue you a pre-qualification letter, which you can use in an offer on a home. This letter is critical to show the seller you are serious about buying.
3. Down payment
A down payment is the amount of money you can put toward the purchase of your home without your lender’s assistance. The more you are able to save and pay up front, the less you’ll need to borrow from your lender. The lower the principal on your loan, the lower your home loan costs over time.
PMI stands for private mortgage insurance. Traditionally, folks would need to save around 20% of a home’s purchase price to make the down payment. As real estate has increased in value, however, this rule of thumb has become an insurmountable obstacle for many families. Luckily, there is an alternative for people who want to buy a home but aren’t able to save $50,000 or $75,000 to make that 20% down payment.
PMI costs are paid for by the homeowner and increase their monthly mortgage payment. PMI is insurance that protects the lender if the borrower becomes unable to pay. It also allows the lender to offer home loans to buyers who have saved 3% to 5% of the home’s value for a down payment. Solarity allows well-qualified borrowers to do 100-percent financing, which means they don’t have to put any money down. There are pros and cons, but its existence makes homeownership a possibility for many more people. Usually, PMI costs can be removed once a borrower has repaid the principal to 20% of the home’s value.
5. Loan term
When you find a home you love, you’ll need to decide how long you’ll need to pay off your mortgage. However long you agree to, that’s the loan term. There are a variety of loan terms, but the most common are 15-, 20- and 30-year terms. If you sign up for a longer loan term, your monthly payments will be lower; but because of interest, you’ll end up paying more over time. If you sign up for a shorter loan term, you’ll increase the amount you have to pay each month, but you’ll pay less over the life of the loan.
6. Interest rate
One of the things to consider when choosing a loan term is the interest rate. With a fixed-rate mortgage, you’ll pay the same interest rate for the entire term of the loan. These are the most common types of mortgages. Locking in the interest rate can help you make long-term financial plans.
There are also adjustable-rate mortgages (ARM) where the interest rate is fixed at the start of your loan and then fluctuates with the market over time. ARMs are helpful if you want to lock in a below-market interest rate for the start of your loan. It can make your initial move more affordable since you’ll have smaller payments at the start. Over the long term, though, if interest rates rise substantially, it may be a less affordable option. Luckily, ARMs usually have caps on the amount the interest rate can rise over the life of the loan.
When you’ve made your choices and you’re ready to purchase your home, you’ll be waiting for the sale to “close.” Closing is the final step in the handover of the property from the seller to the buyer. There are forms and inspections (and even more forms!) between the acceptance of your offer by the seller and closing on the home. Make sure to find a lender that’s experienced and can make this process as easy for you as possible.
Think of equity as ownership. Equity is your home’s current market value minus any liens (such as a mortgage). That’s why paying a larger down payment helps you build equity right at the start. The less you owe on your mortgage, the more equity you have. Equity is also tied, in many ways, to the housing market. Home prices have risen substantially in recent years. If your home increases in value over time, that appreciation also increases your equity.
When you’ve gained a solid amount of equity in your home, you may be eligible to access some of that wealth through a home equity line of credit. A HELOC works in a similar fashion to a credit card but with more flexible terms. For instance, with a HELOC, there’s a draw period (usually 5 to 10 years) where you are only required to pay the interest on the credit line.
You can use these funds for home improvement, emergencies or anything you choose. HELOCs also have lower interest rates than many other loan products. Just remember that, like your mortgage, your home is the collateral for this loan, so make sure to take stock of your financial needs and capabilities before you borrow against your equity.
10. Home loan refinance
There are a lot of good reasons to apply for a home loan refinance. You can move from an ARM to a fixed-rate mortgage if there’s a lower interest rate than when you purchased your home. You can also adjust the length of your loan term. If you’re doing better financially than you were when you first purchased your home, shortening your loan term from 30 to 20 years may save you a lot of interest. You also have the ability to borrow against your equity at that time with a cash-out refinance. Talk to your lender about whether it’s a good time to refinance your home.Solarity’s Home Loan Guidesare here to answer any questions you may have. Reach out and start your homebuying adventure today!