Finances

How do mortgages really work?

Having doubts about how mortgages work? Keep reading and find out all you need to know before financing a home purchase! Let’s get started!

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The basics of mortgages: what you need to know before financing your home

hand holding house key in front of a house
Learn the basics of mortgages! Source: Freepik

For anyone looking to buy a new house, a mortgage is an excellent way to achieve this goal. But just like any financial product, it is important to understand how mortgages work.

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The more you know, the better your chances of choosing the right mortgage for you. To help you with that, in this article, we’ll cover every detail about mortgages.

What is a mortgage and what does it cover?

A mortgage is a type of loan used to finance a home purchase.

So, the homebuyers will borrow a determined amount of money from lenders and repay it back over time, upon an interest rate.

The repayment is made through regular monthly payments that will cover part of the original price of the property.

The real estate itself is used as collateral, so the lender can guarantee they will receive the money back.

There are many different types of mortgages, and the terms and interest rates will vary depending on the lender’s policies. Nevertheless, the average terms are for 30 or 15 years.

Mortgages are commonly used when homebuyers cannot afford to pay the full price of a new home.

This way, they can purchase the house by making a down payment of a portion of the property value while the lenders finance the rest of the amount.

The benefits of getting a mortgage

Mortgages can be really useful for you if you don’t have enough funds to cover the full price of a property.

It will give you the means to achieve homeownership and the opportunity for long-term repayment.

Also, a mortgage will help you improve your credit score. So a mortgage loan, like any credit product, will positively impact your credit history since you stay on top of your payments.

Mortgages usually offer lower interest rates than other types of loans.

And with the many mortgage options available, you can shop around and see which terms will fit your financial situation the best.

In addition, it gives you an easier option of repayment since you can pay back monthly with fixed installments. The costs might be lower than renting, for example.

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The risks of getting a mortgage

The first risk you must be aware of is that your home is used as collateral. If you stop making payments, you can lose your property and any money you’ve already paid.

Also, a mortgage is an extra monthly expense. And with interest charged over the years, you might end up paying more than the actual value of the property you’ve bought.

The market is unpredictable, so your home’s value can drop at some point, making the mortgage balance largest than the property value.

The interest rates also vary with the market’s changes.

What are the different types of mortgages

House model with real estate agent and customer discussing for contract to buy house
Find out the different types of mortgages! Source: Freepik

There are many mortgage loan options in the market for homebuyers. It can be determined by the needs of the borrowers, offering different terms and rates.

First, we have the Fixed-rate mortgage, which offers fixed monthly payments that won’t change over time.

There is also the adjustable-rate mortgage, which offers variable rates depending on the market after an initial period.

Conventional loans are one of the most common types. It is not issued by the government and offers lower costs than other types of mortgage loans.

In addition, there are short and long-term loans. The short-term mortgage will typically give you 10-year fixed rate terms but will require higher payments.

On the other hand, the long-term mortgage offers a 30-year or longer term, but you’ll pay more interest.

VA loans are available for the U.S. military and their families. Equally important is the FHA, which accepts applicants with lower credit scores.

And the USDA, destined for purchasing homes in rural areas.

These are only the most common types of mortgages currently available on the market.

And before applying for one, you need to shop around, compare the rates and terms and see which one will fit your finances the best.

How to apply for a mortgage?

side view smile black woman looking notebook
Learn how to apply for a mortgage! Source: Freepik

Before applying for a mortgage loan, you must look at your credit score and choose which type of loan you want.

Once you’ve decided on these issues, it is time for you to get pre-approved on multiple mortgage loans.

Lenders usually ask for your personal and financial information, such as income, employment status, and Social Security number.

They’ll analyze your employment history, debt-to-income ratio, credit score, and more to decide what offers they will approve you for.

Getting pre-approved is essential to see which mortgage options are available for you without hurting your credit history.

After the pre-approval and once you’ve found a home that suits your needs, you can make de actual mortgage application.

Once you apply, the lenders will take a hard credit check. But if you’re approved, you can compare the best rate offers and choose the one that might suit you best.

What credit score do you need to apply

Since lenders will consider your credit score before making any mortgage loan offer, you need to pay attention to it. The higher the score, the lower your interest rates will be.

The minimum score required can vary from lender to lender, but the average is 620 for conventional, fixed-rate, and adjustable-rate loans.

You can apply for a government-backed loan with a minimum down payment with a 580 FICO score.

And in case you apply for a government-backed loan with a higher down payment, you might qualify with a 500 credit score.

So if you’re credit is not so good, remember to work it out before applying for a mortgage loan.

In case you need some tips on how to raise your credit, don’t worry! We have an article that might help you with that.

Read the next post and learn how to raise your credit score and your chances of getting a good mortgage loan!

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About the author  /  Beatriz Vieira

Beatriz Vieira is a producer and copywriter who is part of the finance writer team in this portal. She has a degree in Journalism and aims to improve her bilingual writing skills. Her subjects of most significant interest are culture, finances, and self-development.

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