Thinking about getting a mortgage naturally prompts tons of questions. Don't feel bad if it seems like there is a lot you don't know. Millions of other first-time home buyers have probably asked many of the same questions that are occurring to you now.
Here are some frequently asked mortgage questions, along with their answers:
1.Do I need great credit to get a mortgage?
No, you do not need great credit to get a mortgage, but there are certainly advantages to having a good credit score. Better credit will increase your flexibility as to the type of mortgage you can get, lower the down payment you will need to come up with, and make your mortgage cheaper.
You can get an FHA mortgage with a credit score as low as 500, but this will require a down payment of at least 10 percent. A credit score of 580 will let you make a down payment of as little as 3.5 percent. In either case though, FHA mortgages require the payment of mortgage insurance premiums both upfront and for at least eleven years (and for the life of the loan if your down payment is less than 10 percent). Also, FHA loans typically will have higher interest rates than conventional mortgages. For a conventional mortgage, you can get a loan with a credit score as low as 620, but only if you put at least 25 percent down, and only for a fixed-rate loan. Higher credit scores will open up the possibilities of lower down payments and getting an adjustable-rate loan, if desired.
2. Does my spouse's credit score matter?
It depends on whether you want to count both your incomes when applying for a mortgage. If you do, then you have to apply jointly and that means both credit scores come into play. If your spouse has a bad credit history then you could apply on your own, but that means only your income would count towards qualifying. That could result in qualifying at a lower loan level than you would like.
3. How do I get approved for a mortgage?
Here are the key elements:
- Credit history. See the answer to question 1, above. You don't need great credit, but the higher your score, the better your chances of approval and the better the terms of the loan are likely to be.
- Income. Lenders will compare your income to the amount of the loan in determining how much you can repay.
- Job history. Lenders want to see a steady work history - at least two years at the same employer is ideal, but at the minimum, there should be no lengthy gaps in employment during the last two years.
- Current debts. Essentially, a lender will subtract your existing payment obligations from your income in deciding how much of a loan you can afford.
Once you have shopped around for interest rates, have the lender you choose walk you through the qualification process even before you have found a house. That way you will have time to identify and address any issues in advance.
4. How long are you pre-approved for?
You can get pre-approved for a mortgage before you are ready to make an offer on a specific house. This essentially involves going through the basic elements of the approval process and getting a commitment from the lender for a specified loan amount and terms.
This pre-approval is good for a limited time - perhaps as long as 90 days, but often only between 45 to 60 days. The pre-approval letter should specify the length of the commitment. Also, pre-approval is limited by conditions as well as time, so if there is a change in any of the key conditions under which pre-approval was granted, it may void the pre-approval.
5. What is conditional approval?
This means your loan has been reviewed and is likely to be approved as long as everything is as it appears on the application. However, the lender's underwriter - the person who decides whether or not the application meets the lender's standards - may want additional information or documentation on a specific item or two. Conditional approval means that the loan will be approved if you can satisfy that need for additional information or documentation.
6. How much of a down payment do I need?
You can get a mortgage with as little as 3 percent down. However, if you can afford a bigger down payment, there are good reasons for putting more money down. First of all, putting more into a down payment means borrowing less money, which will result in you paying less interest. Also, mortgages with a high loan-to-value ratio are likely to have to pay mortgage insurance premiums, and may not qualify for the lowest interest rates. So, putting more money down up front saves you in the long run.
7. What are closing costs, and how much should I expect to pay?
Closing costs include a variety of fees for things like the inspection and appraisal of the home, as well as fees to the lender for underwriting and originating the loan. You are also likely to have to pay taxes on the loan. Depending on the type of mortgage you have, you may also have to make an upfront payment of a mortgage insurance premium. All told, these closing costs typically run between 1 and 3 percent of the value of the home.
8. What type of mortgage should I choose?
The two big decisions you will face about what type of mortgage to get are between a fixed or adjustable-rate mortgage, and the length of the loan.
A fixed-rate mortgage will mean your monthly payments will stay the same throughout the repayment period. An adjustable-rate mortgage will have payments that vary as market rates change over time. This can work to your advantage if rates fall, but it would work against you if rates rise. With an adjustable-rate mortgage you run the risk that the payments could become so expensive you can no longer afford them, which is not a risk most home buyers find acceptable.
As for length, the two most common mortgage durations are 15 years and 30 years. Naturally, spreading repayment out over a longer period results in lower monthly payments, which makes buying a home more affordable. However, a longer loan also means paying interest over a longer period of time, and usually at a higher rate. Before you opt for a longer loan, you should run the numbers on a mortgage calculator to see just how much more a longer loan will cost you in interest payments over the life of the loan.
9. How much of my income should my mortgage be?
Financial advisors throw around rules of thumb about this that are typically in the neighborhood of 30 to 40 percent of income, but the truth is that no one percentage is right for all home buyers.
One variable is that in some markets housing is so expensive that you may have no choice but to devote a larger portion of your budget to your mortgage. Another factor that makes the percentage vary is that higher earners can often afford the houses they want with a lower percentage of their incomes. Finally, a big key is how much other debt you have. For example, if you are facing years of substantial student loan payments, that may mean less of your income can go towards your mortgage.
10. When should I lock in my interest rate?
Since locking in a rate typically involves paying a fee to the lender, it is best not to commit until you have had an offer on a house accepted. Prior to that, you should be able to get a reasonable enough estimate from the lender of what you will pay to be able to plan a budget and target your price range accordingly.
11. Should I pay discount points?
This all depends on the numbers - how much of an ongoing rate discount will you get in exchange for paying points up front?
Making this decision is another instance in which crunching the numbers in a mortgage calculator can be helpful. You can run the numbers both with and without points to see how the long-term savings compare to the points paid at the beginning. Keep in mind that money today has greater value than the same dollar amount in the future, so if it takes you the bulk of your repayment period just to recoup what you paid initially in points, it probably isn't worth it.
12. How long should my loan term be?
This decision involves a trade-off between month-to-month affordability and long-term expense. Longer loans make your monthly payments more affordable, but they also typically entail higher interest rates and will also require you to pay interest for a longer period of time. If you run both scenarios on a mortgage calculator you may find the difference in interest expense to be quite a revelation.
The most important thing is for you to be able to readily afford your monthly payment, and if a 30-year mortgage is the only way of doing that, this may trump all other considerations. However, if you can afford the steeper monthly payments that go with a shorter loan like a 15-year mortgage, then taking that option will save you money in the long run.
13. What documentation will I need to complete the mortgage process?
During the application process, expect to provide proof of income, such as pay stubs or tax returns. You will also have to provide information on any bank or investment accounts you have. At closing, you will need a cashier's check or proof of a wire transfer to make your down payment and pay any closing costs. You will also need to provide legal ID, such as a driver's license.
14. What is escrow?
Escrow is a special bank account where money is held until it is time to use it on your behalf to make specific payments related to your house, such as property taxes and insurance premiums. Since your mortgage lender has an interest in making sure you keep up with those payments, they control the escrow account that you fund and use the money to make the necessary payments when they come due.
15. How long does it take to close a mortgage?
According to mortgage software provider Ellie Mae, the average purchase mortgage is currently taking 45 days to close. However, the timing can vary considerably depending on the lender and the type of loan.
16. How do I calculate my prospective mortgage payment?
The best way is to use a mortgage calculator. A good mortgage calculator can help you figure out not just your principal and interest payments, but also how much things like property taxes and insurance will add to your total monthly obligation.
17. Will my monthly payments change over time?
This depends on the type of mortgage you get. Most mortgages are conventional, fixed-rate loans that have equal monthly payments over the life of the loan. However, adjustable-rate mortgages have payments that are subject to vary if interest rates change. Also, some loans are structured to minimize initial payments in exchange for larger payments later on.
Whether or not your monthly payments can change is a crucial thing to understand before you sign up for your loan. Make sure you and your lender are absolutely clear on this issue before you commit.
18. Can I prepay my mortgage?
Typically yes, but be careful - mortgages often have prepayment penalties that kick in if you pay early. Check your loan documents for any such provision before you make early payments.
What you might find is that your loan has a prepayment penalty in the early years that reduces or goes away if you don't start making early payments until later in the loan term. You will want to take this into account so you can figure out when it makes sense to start making early payments.
Don't feel shy about having mortgage questions. It is a complicated process, and asking questions is the first step towards understanding it better. Don't sign anything until you feel all your mortgage questions have been properly answered.