Mortgage 101

Buying a new home is an exciting but stressful endeavor. Be proactive and get your income, assets, debt and credit in order before applying.

Go online and get your free annual credit report and review it for any errors or inaccuracies. Do not open any new credit. Do not apply for any additional credit cards or car loans.

Gather together your documents. You’ll need to provide recent bank statements and paycheck stubs. You’ll also need your last two years of taxes.

Once you have everything together, reach out to a lender for a preapproval. The lender will take your application, run your credit and review the documents you’ve gathered. The lender can then tell you how much of a loan you can qualify for and issue you a prequalification letter.

This step is very important, as many home sellers will no longer review offers from prospective buyers who are not preapproved with a lender. With a preapproval in hand, you’re ready to begin shopping for your new home!

Many sellers these days will only entertain offers from potential buyers who have been preapproved or prequalified.

Getting preapproved by a lender will let you know exactly how much you can borrow and what price range you can shop in.

Once your offer on a new home is accepted, being preapproved will help the transaction move along faster towards closing as half the process for loan approval is already complete. The lender has already reviewed and approved you as a borrower; now, all they have to do is review the home and make sure it is eligible.

Interest rates for home loans are based on the borrower’s unique scenario and demand in the financial markets.

Based on the specific risk characteristics of your scenario, your interest rate could be higher or lower than your neighbor’s. The biggest risk factor is the combination of your Credit Score (commonly referred to as a FICO score) and the Loan to Value (LTV), which is the percentage of the home’s value that is mortgaged. A lower credit score and a higher LTV will lead to a higher interest rate.

At 80% LTV, the difference in interest rate between a 740 credit score and a 670 credit score could be over 1%.

Property type can also influence interest rate as well. A manufactured home or condominium could add 0.25% to your interest rate over a single family home.

When “the Fed (Federal Reserve Bank) raises the rates”; this is in reference to the Federal Overnight Rate. This is the rate that banks charge each other for short term borrowing. This is a component of the ‘Prime Rate,’ which affects the interest rates on your credit cards. The Federal Overnight Rate does not directly affect mortgage rates.

Mortgage interest rates change daily based on movement and demand in the financial markets. Adjustments to the Federal Overnight Rate can signal inflation (increasing the rate) or deflation (reducing the rate) and can be used as a signal that all interest rates will likely be moving up or down.

Points are a percentage of the loan amount paid at closing to reduce your interest rate and lower your monthly payment.

If you expect to have additional funds left over at closing from a seller credit, or you are willing to pay for a lower rate, ask for a rate quote where you will be paying points for the lower rate as well as a rate quote at Par where no points are being paid to lower the rate. If the lower monthly payment will recoup the points paid in three years or less, it might be worth paying for the lower rate.

Keep in mind; there are other costs involved in a mortgage, such as attorney and title fees, appraisal fees and credit reports fees. Lenders will also usually charge an application or commitment fee (this fee is used to cover the operational cost of funding your loan) and these are not included in ‘points’.

Fannie Mae, Freddie Mac, Ginnie Mae… there are a lot of names you might hear thrown out when researching a home loan or talking to a loan officer.

Fannie Mae, or Federal National Mortgage Association (FNMA), and Freddie Mac, or Federal Home Loan Mortgage Corporation, are two Government Sponsored Enterprises (GSE’s) created by congress. Their mission is to expand home ownership in the USA by purchasing mortgages made by lenders and turning them into Mortgage Backed Securities (MBS) which investors purchase and are similar to a bond, as the interest collected from mortgages each month is passed on to the security holders.

Fannie Mae and Freddie Mac buy loans that conform to their guidelines and are under a certain loan amount (Conforming Loan Limit). These are also referred to as Conventional Conforming Loans.

Ginnie Mae, or Government National Mortgage Association (GNMA), is similar to Fannie Mae and Freddie Mac but is exclusively for ‘Government Loans’ such as FHA, VA and USDA loans.

Homeownership is completely different than renting and comes with unexpected costs. In addition to your monthly principal and interest payment, you will also need to set aside money each month for real estate taxes and insurance. In most instances you can have these escrowed by your lender where you pay a pro-rated portion of taxes and insurance with each monthly payment. Depending on your Loan to Value or type of loan, this escrow might be required.

Additionally, any repair or maintenance costs will be yours to shoulder as the homeowner. If your AC goes out during the summer, you will be responsible for the cost of repair or replacement, as you are now your own landlord. These unexpected costs can be mitigated by purchasing a Home Warranty when closing your loan. Speak to your loan officer or real estate agent for recommendations for a home warranty company.

To quickly receive a final approval on your loan application, it is crucial to respond to all requests from your loan officer and loan processor promptly. It is also helpful to be proactive and gather your documents together before applying for a home loan.

Common documents needed are past two months of bank account statements, and last two paycheck stubs. Your last two years of tax returns will be needed as well. If you are using any investment or retirement accounts for asset verification or part of the down payment, have those account statements at hand as well. If you are self-employed, a P&L and Balance sheet as well as complete tax returns for the past two years, including all schedules, are needed.

Part of the underwriting process is to also review your credit history. If you know of any recent issues on your credit—such as recent inquires, a missed payment, a new car loan, etc.—you will be asked for a Letter of Explanation (LOE). Having these at the ready can speed up the process.

There are different types of homeowners insurance. Depending on your scenario, some can be optional or mandatory. Some are always required.

Some types of insurance you may hear about are:

Hazard Insurance: Hazard insurance protects a property owner against damage caused by fires; lightning; hail-, wind-, snow-, or rainstorms; or other natural events. However, it does not generally cover flood damage. Hazard coverage is usually a subsection of a homeowner’s insurance policy that protects the main dwelling and other nearby structures, such as a garage. This type of policy is always required when your home is financed.

Flood Insurance: If your home is in certain flood zones as determined by the government, flood insurance will be required. This policy covers damage to your home caused by flooding that is not covered by your standard hazard insurance policy.

Private Mortgage Insurance (PMI or MI): If your loan is a Conventional Fannie Mae or Freddie Mac loan and your Loan to Value (LTV) is over 80%, your lender will require this type of insurance. PMI is a policy that covers the owner of the Note in case of default or foreclosure. PMI will cancel after the LTV falls below 78%.

Mortgage Insurance Premium (MIP): If you have a FHA mortgage, part of your monthly payment is MIP. This mortgage insurance is similar to PMI. It is collected monthly in your payment, and the premium is forwarded to the FHA. Unlike PMI, MIP cannot be canceled under most circumstances.

Attorneys certify title, order title insurance, and act as the escrow and closing office for the transaction.

Once under contract, we typically receive the contract and a title request from the lender. Because your lender will require a lender’s policy of title insurance, we conduct a title search of the property you will buy. This title search is to discover any liens, easements, restrictive covenants, and other issues affecting title, and ensure that those issues are identified, disclosed, and cleared if necessary. Once we have completed our title search, we work with a title insurance company to order a “title commitment,” which tells us what we will need to do to get a title policy. Title insurance covers undisclosed title defects that may be a problem for you.

Title defects can be any number of problems with the legal ownership of your property and home. For a simple example, imagine a husband and wife bought a house together. Later they divorce, and only the husband signs the deed to you. In this instance, the wife has not released her interest in the property to you, and this is a big problem.

Once we have a commitment of title insurance, we send over a set of documents your lender requires, one of which is a “Closing Disclosure,” or commonly called a “CD.” The CD is preliminary, and it lists all the non-lender charges that will be a part of the real estate transaction – commissions to real estate agents, loan payoffs, inspection invoices, recording fees, etc. When we get closer to closing, the lender will send us back a CD with our fees added to theirs, and we start “balancing” the CD, which means we continue to compare numbers until we match. We get down to the penny matching, everything must be the same. Once the CD is “in balance,” we are able to send you your final cash to close numbers.

Attorneys compile all the documents needed for the buyer, seller, lender, and title insurance company, and ensure all requirements are met at or before closing. We also collect all the funds from the buyer and lender so we can close. At the closing table, we execute all the documents necessary to close and transfer legal title to the property. Once signing is complete, we get lender approval to close and record the deed and deed of trust (mortgage) at the county registry. After recording is complete, we disburse funds to all needing payment.