I have recently received a few e-mail comments from readers asking me to expand on my previous article Understanding Mortgages, this article will answer many of the questions that were posed to me in those e-mails.
Mortgage and Housing Markets
Today’s housing market in most of the United States is a virtual candy store for the homebuyer. The sheer selection of properties on the market in most cities allows today’s homebuyer a tremendous selection at prices we have not seen in many years. There is only one problem however – lenders are tightening the purse strings on mortgage financing!
With lenders becoming more and more risk-averse, obtaining a suitable mortgage these days can often be a daunting task. There are numerous types of mortgages to choose from, and because of some previous “shady” lending practices, you need to make sure that both your lender and your mortgage are on the up and up.
With that said, there are several different types and structures of mortgages with various options to consider before committing yourself to such a large obligation.
Once you have settled on a legitimate mortgage with acceptable terms and conditions, there is the issue of the interest rate. Which option you choose will depend on your circumstances, but visiting your lender armed with the knowledge of the basic differences in terms and conditions will give you the confidence to get the best deal.
Here’s a quick guide to some different types of mortgages:
With a fixed rate mortgage, you agree with the lender on a set period of time – usually between two and five years – during which the interest will not change. The benefit here is that you will not suffer an increase if rates go up. Similarly, you won’t benefit if rates go down, and the borrower will likely face stiff penalties in order to pay out the mortgage early. As intriguing as a low, fixed rate interest plan may seem, you must check how long you are required to remain with the lender before you can pay out the mortgage without penalty.
The amount you pay for your mortgage alters in line with national interest rates. Normally, the interest reflects the changes in the base lending rate of the central bank; this is decided by the Federal Reserve whom control the monetary policy for the country. Every time the Fed raises the overnight rate, the lenders eventually follow suit because their cost of funds increases. And in order for the lender to make money there has to be a “spread” between its cost of funds (the rate the bank pays to borrow money) and what the back charges to lend that money to the consumer.
The idea behind capped rates is to offer the best of both fixed and variable rates. A “cap” is set on the interest so that it will never rise above that level, but if national rates fall, your interest will go down accordingly. The benefit of these is that you know the maximum interest rate that you could end up paying. However, the capped rate is not generally very competitive.
Discounted rates will fluctuate in line with the lender’s variable rate, but are obviously cheaper to tempt customers in. After the discount term has ended, the rate will then revert to the normal variable rate.
Banks and companies offering mortgages are now required to supply customers with a key facts document that provides all relevant information relating to the loan, and clearly sets out the total cost of the loan, not just the interest.
What Else Can affect My Mortgage Rate?
Along with the various types of mortgages available, there are a few other things that can affect the rate of interest that you will be charged on your mortgage.
One of the major factors that will affect the rate of interest that a lender will charge for your mortgage is the risk that they perceive they are taking by lending money to you. The major tool that lenders use to judge risk is your credit score. A better credit score will result in a lower mortgage interest rate because you are determined to be a lower risk than someone who has a lower credit score.
Do Your due Diligence
Whichever mortgage you choose, make sure you thoroughly research every option and compare lenders. You are, after all, bound in to the agreement for a long-time, and it’s sensible to make sure you get it right first time as switching lenders can involve hefty penalties. Lenders may have significantly different terms and conditions for their mortgages.
Remember, that it doesn’t matter how low an introductory rate is if it will significantly increase in 6-months or 1-year. Be sure that you read the fine print and calculate the actual costs of the mortgage over the entire amortization period.
There are plenty of great homes out on the market right now and there are a ton of reputable lenders who will be happy to lend money for home purchases. The key is to be knowledgeable and well prepared when applying for a mortgage so that you ensure that you get the best mortgage for your situation.
Happy house hunting!