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People looking to buy a home rarely have enough cash to pay for the whole thing upfront. That’s why mortgage loans are popular. They allow you to borrow money for the home purchase, usually with a down payment, and gradually repay the loan with interest. As much as 86% of recent homebuyers financed their purchase with a mortgage.1
Here’s what you should know about mortgage loans:
So, what is a mortgage loan?
A mortgage is a loan you take out to finance your home purchase or refinance. Here are a few points to remember about a mortgage:
- It’s secured by your home or other property.
- You pay it back over a period of time — usually 15 to 30 years.
- If you fail to make payments at any point during the loan term, the lender can take possession of your home through foreclosure.
It’s important to consider the costs before signing for the loan. There are two main types of costs to consider:
- Upfront costs: These are one-time costs you pay when you buy the home. They include closing costs, which are typically between 2% and 5% of your home’s purchase price, and the down payment.
- Ongoing costs: These come in the form of a monthly mortgage payment, which you’ll make throughout the life of your loan. The payment typically includes a portion of your principal balance and interest.You also might have to for mortgage insurance if your down payment is less than 20%.
Types of home loans
The most common mortgages are conventional and government-sponsored loans. The main difference between these types is who insures the loan.
- Conventional loans are handled through private lenders such as banks, credit unions, and online institutions. Because conventional mortgages are guaranteed by mortgage agencies Fannie Mae and Freddie Mac, they must conform to agency standards. In most of the U.S., a conforming loan on a single-family property must be less than $510,400, but can be up to $765,600 in high-cost areas.
- Jumbo loans are like conventional loans, but for homes that exceed these price limits.
You’ll also find government-insured loans through private lenders, but they’re backed by government institutions:
- FHA loans are insured by the Federal Housing Administration. To be eligible, your credit score and down payment will need to meet FHA loan requirements. You’ll also need to pay mortgage insurance at closing and throughout the life of the loan if your down payment is less than 20%.
- VA loans are available to veterans and are insured through the U.S. Department of Veterans Affairs. There’s no down payment or private mortgage insurance requirement, though borrowers will pay a funding fee.
- USDA loans are backed by the U.S. Department of Agriculture. To qualify, you need to meet income requirements and buy a home in a USDA-defined “rural” area. There’s no down payment, but borrowers pay two forms of mortgage insurance.
How mortgages work
When you take on a home loan, you sign an agreement that specifies your monthly payment, loan length, loan size, mortgage rate, and other terms of the deal. Each month, you’ll send a payment to your loan servicer.
- Down payment: This is the money you pay upfront to purchase the home, and it’s expressed as a percentage of the home value. A larger down payment shrinks the amount of money you need to borrow, which can help lower your monthly payments. A typical down payment is 20%, but you don’t always need that much, depending on your mortgage type.
- Credit score: The lender will partly base your mortgage rates on your credit score. A score in the mid-700s or higher can help you get a good rate, but it’s still possible to get a mortgage with a lower score. On an FHA loan, the minimum credit score is 500 if you put at least 10% down or 580 with 3.5% down. Conventional loan lenders tend to look for scores of 620 or higher.
- Debt-to-income ratio: DTI calculates how much of your monthly income goes toward debt, including your mortgage payment. If you earn $6,000 a month and $2,400 goes toward debts and your mortgage payment, for example, then your DTI ratio is 40% ($2,400 is 40% of $6,000). Conventional loans typically require a DTI ratio around 43% or less.
- Discount points: These are fees you can choose to pay the lender to lower the interest rate (and therefore your monthly payment). Mortgage points usually cost 1% of the home value. So, for example, you would pay $2,000 to buy one “point” on a $200,000 mortgage. One point can often equal a 0.25% rate reduction – though the exact discount on your interest rate depends on the lender.
Where to get a mortgage
You can get a home loan from a bank, credit union, or online lender. Credible Operations, Inc.’s online loan marketplace can help you figure out how much you can borrow, get pre-approved, and compare lenders. You can compare prequalified rates from all of our partner lenders in the table below in just a few minutes.
Check each lender’s loan terms side by side, and select the loan that works best for your financial situation. Generally, a sizable down payment, high credit score, longer loan term, and low mortgage APR can help make your mortgage payment affordable.
Tip: Keep in mind that if you opt for the longer loan term, you pay more interest over the life of the loan.
How to get a mortgage
The homebuying timeline can stretch over several months. But there are some basic steps to follow.
Here are the major parts of the process:
- Review your credit report. You might qualify for a conventional mortgage with a credit score around 620 or higher, and government-insured loans have more flexible requirements. But if your score is on the low side, try to improve your credit score before applying. This could help you get a lower mortgage rate.
- Get pre-approved. Ask a lender for a mortgage pre-approval. This letter tells you how much you qualify to borrow based on your credit, income, and other factors. A pre-approval can help you estimate your home budget and make a strong offer on a home. You’ll need a recent tax return, pay stubs, W-2, and bank statements for the pre-approval process.
- Shop around for mortgage rates. Even a slightly lower mortgage rate can help you save a lot of money over the loan term, so it’s important to compare multiple lenders. Credible Operations, Inc. lets you do this by filling out a single form.
- Negotiate the home purchase and complete the application. A real estate agent can help you through the homebuying process, like scheduling house showings and negotiating the purchase. Once you’ve signed a purchase and sale agreement and you choose a lender, fill out and submit the mortgage application.
- Get approved and close on your mortgage. Your lender will go through all your information to make sure you can afford the loan. They’ll verify your income, go over your debts, and pull your credit. They’ll also confirm the value of the home through an appraisal.
Keep Reading: How to Get a Mortgage
Once the lender approves your mortgage, you’ll sign paperwork promising to repay the loan. From here on out, the best thing you can do for your mortgage loan is focus on making on-time payments each month.
Credible Operations, Inc. makes comparing multiple lenders quick and easy, providing actual prequalified rates in minutes without affecting your credit score.
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1National Association of Realtors
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