Buying a home is an exciting milestone, but navigating the mortgage process can feel overwhelming. With so many financial terms and loan options, it’s important to understand the key components of a mortgage. At Radiant Credit Union, we want to help you make informed decisions on your home-buying journey. Here’s a breakdown of common mortgage terms to guide you through the process.
You can download this post as a PDF right here: Understanding Common Mortgage Terms
Mortgage Types
By Interest Rate Structure
- Adjustable-Rate Mortgage (ARM): A mortgage with an interest rate that can change periodically based on an index.
- Fixed-Rate Mortgage: A mortgage with a constant interest rate for the entire term of the loan.
- Variable-Rate Mortgage: Another term for an adjustable-rate mortgage (ARM).
By Loan Conformity and Backing
- Conforming Mortgage: A mortgage loan that conforms to rules created by the FHFA and can be guaranteed by government-sponsored entities like Fannie Mae and Freddie Mac.
- Conventional Mortgage: A mortgage that is not insured or guaranteed by a government agency.
- Non-Conforming Mortgage: A mortgage that does not conform to FHFA rules (including Jumbo loans and other specialty loans).
By Government Backing
- FHA Loan: A mortgage insured by the Federal Housing Administration with lenient borrowing guidelines.
- USDA Loan: A loan guaranteed by the U.S. Department of Agriculture for homes in designated rural areas.
- VA Loan: A mortgage loan available to veterans and their families, guaranteed by the Department of Veterans Affairs (VA).
Financial Terms
- Mortgage: A mortgage is a loan used to purchase or maintain a home, plot of land, or other real estate. The borrower agrees to pay the lender over time, typically in a series of regular payments divided into principal and interest.
- Amortization: The term during which the balance must be paid off, typically ranging from 10 to 30 years.
Mortgage Components
- Principal: The amount of money borrowed for a mortgage.
- Interest Rate: The amount charged by a lender to a borrower for the use of assets, expressed as a percentage of the principal.
- Annual Percentage Rate (APR): The yearly cost of a loan, including interest and fees, expressed as a percentage.
- Loan-to-Value Ratio (LTV): A calculation dividing the mortgage amount by the home’s value. Lenders typically require an LTV ratio of at least 80%.
Fees and Payments
- Origination Fee: A fee charged by a lender for processing a new loan application.
- Discount Point: A fee paid at closing to reduce the interest rate. One point equals one percent of the loan amount.
- Points: Fees paid to the lender at closing in exchange for a reduced interest rate.
- Down Payment: A portion of the home price, usually between 3-20%, paid upfront in cash.
- Earnest Money Deposit: A deposit showing commitment to buying a home, usually refundable if contract contingencies are not met.
- Buydown: An arrangement where an interest subsidy reduces the borrower’s monthly payments typically in the early years of the loan.
- Rate Lock: A written promise from a lender to give you a specific interest rate for a set period before closing.
Insurance and Protections
- Private Mortgage Insurance (PMI): Insurance protecting the lender in case of borrower default on a conventional loan.
- Equity: The difference between the home’s value and the mortgage loan amount.
Financial Ratios and Calculations
- Debt-to-Income Ratio: The percentage of gross monthly income that goes toward paying monthly housing expenses and other debts.
- Basis Points (BPS): Numbers representing interest rates in an absolute way, often used to describe changes in mortgage rates.
Loan Processes
- Amortization: A blueprint for paying off your mortgage in equal installments over a set time.
- Refinance: The process of obtaining a new mortgage to replace an existing one.
Home Buying Process
Valuation and Offers
- Appraisal: An analysis by a professional appraiser estimating a home’s value by comparing other sales of nearby homes.
- Counteroffer: An offer made in response to a previous offer, often involving a revised sale price.
- Offer: A formal bid from the home buyer to the home seller to purchase a home.
Pre-Approval and Qualification
- Pre-Approval: A process by which a lender indicates how much money you’re eligible to borrow.
- Pre-Approval Letter: A letter from a mortgage lender indicating that you qualify for a mortgage of a specific amount.
- Pre-Qualification: A preliminary assessment of the amount a lender will lend to a potential home buyer.
- Pre-Qualification Letter: A letter from a mortgage lender stating you’re prequalified to buy a home.
Documentation and Estimates
- Good Faith Estimate: An estimate by the lender of the closing costs from the mortgage.
- Loan Estimate: A form providing important details about the loan requested.
- Commitment Letter: A binding offer from the lender including the mortgage amount, interest rate, and repayment terms.
Legal and Financial Protections
- Title: A legal document proving property ownership.
- Title Insurance: Insurance protecting against financial loss from defects in title to real property.
- Warranty Deed: A deed conveying the seller’s interest in real property to the buyer.
Closing Process
- Closing: The process of completing a financial transaction, including signing documents and transferring ownership of the property.
- Closing Agent: The person or entity coordinating closing activities, including preparing and recording documents and disbursing funds.
- Closing Costs: Upfront fees charged to originate a mortgage, typically 2% to 6% of the loan amount.
- Closing Date: The date on which the property sale and loan transaction are finalized.
- Closing Disclosure: A document providing final details about a mortgage loan, including terms, projected monthly payments, and fees.
Financial Arrangements
- Escrow: A savings account set up by your lender to collect and pay property taxes, homeowners’ insurance, and mortgage insurance as they come due.
- Underwriting: The process a lender uses to determine if the risk of offering a mortgage loan to a particular borrower is acceptable.
- Loan Servicer: The company that handles the day-to-day tasks of managing your loan, including collecting payments, sending monthly statements, and managing escrow accounts.
- Escrow Analysis: An annual review conducted by the loan servicer to ensure that enough funds are collected to pay property taxes and insurance premiums when they are due.
Contract Status
- Under Contract: When a buyer and seller sign a purchase agreement, indicating the house is “under contract.”
We know buying a home can feel like a lot, but you don’t have to do it alone. Whether you’re a first-time buyer or looking to refinance, we’re here to guide you through the process. Have questions? Reach out today, we’d love to help you find the perfect mortgage for your dream home!