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What you need to know to shop for a mortgage

Demystify mortgages with our friendly guide for first-time homebuyers. Learn what a mortgage is, how it works, and get insider tips on finding the best deal. Your path to homeownership starts here!

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Table of Contents
What you need to know to shop for a mortgage
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Summary

In less than 5 minutes, we break down the complex world of mortgages and explain why they're purposefully complicated. By the end, you'll be a mortgage expert and understand how to save money when shopping for a mortgage.
This guide covers various loan options, including:
  • Conventional loans
  • Government-backed loans from the Federal Housing Administration (FHA)
  • Loans from the Department of Veterans Affairs
  • Jumbo loans
We'll help you navigate these choices and avoid overpaying, no matter which option suits your needs.
We'll cover:
  • What a mortgage is
  • Types of mortgage loans
  • Fees and costs, including private mortgage insurance (PMI)
  • The lending process
  • Shopping for a mortgage and comparing loan estimates
This guide will empower you to make informed decisions based on your financial situation and long-term goals when purchasing a home.

Table of Contents

  1. What's a Mortgage? Key Components
  1. Types of Mortgages
  1. The Hidden Costs: Beyond Principal and Interest
  1. The Mortgage Process: Knowledge is Your Best Defense
  1. Shopping for a Mortgage: Don't Leave Money on the Table
  1. The Bottom Line

What's a Mortgage?

Mortgages are complex financial products, and that complexity isn't accidental - it's how lenders and financial institutions maintain their profit margins. Understanding mortgages can save you thousands of dollars over the life of your loan.
A mortgage is a loan used to purchase a home. You borrow a large sum from a lender and agree to pay it back over time, typically 15 to 30 years, with interest. Your home serves as collateral for the loan.

Key Components:

  1. Principal: The amount you've borrowed.
  1. Interest: The cost of borrowing the money, expressed as a percentage.
  1. Down Payment: The initial payment you make, typically 3-20% of the home's price.
  1. Term: The length of time you have to repay the loan, usually 15 or 30 years.
  1. Annual Percentage Rate (APR): The yearly cost of the loan, including interest and fees.

Types of Mortgages

There are several types of mortgage loans, each designed to meet different needs:

1. Conventional Loans

  • Not backed by government agencies
  • Often require higher credit scores
  • May have lower interest rates for well-qualified borrowers
  • Can be used for primary residences, second homes, or investment properties

2. Government-Backed Loans

FHA Loans (Federal Housing Administration)

  • Lower down payment requirements
  • More flexible credit requirements
  • Ideal for first-time homebuyers or those with less-than-perfect credit

VA Loans (Department of Veterans Affairs)

  • Available to eligible veterans and active-duty service members
  • Often require no down payment
  • Competitive interest rates

USDA Loans

  • For homebuyers in eligible rural areas
  • Low or no down payment options
  • Designed to promote homeownership in rural communities

3. Fixed-Rate Mortgages

  • Interest rate remains constant throughout the loan term
  • Predictable payments, making budgeting easier
  • Higher initial rates compared to ARMs
  • Best for: Long-term homeowners who value stability

4. Adjustable-Rate Mortgages (ARMs)

  • Interest rate can change after an initial fixed period
  • Lower initial rates compared to fixed-rate mortgages
  • Potential for significant payment increases if rates rise
  • Best for: Short-term homeowners or those comfortable with financial risk

5. Jumbo Loans

  • Exceed the conforming loan limits set by Fannie Mae and Freddie Mac
  • Typically require larger down payments and excellent credit
  • Used for high-value properties

The Hidden Costs: Beyond Principal and Interest

Your mortgage payment isn't just about paying back what you borrowed. Here's what makes up your total payment (often referred to as PITI):
  • Principal and Interest: The amount borrowed plus the cost of borrowing
  • Property Taxes: Annual taxes based on your home's value, often collected monthly by your lender
  • Insurance: Homeowners insurance and, potentially, private mortgage insurance (PMI)
Some lenders may also include HOA fees if applicable.

The Mortgage Process: Knowledge is Your Best Defense

  1. Check your credit history: Your credit score significantly impacts your interest rate. Know where you stand.
  1. Save for a down payment: The more you put down, the less you'll pay in interest over time.
  1. Get pre-approved: This gives you a realistic budget and shows sellers you're serious.
  1. Shop for your home: Stay within your pre-approved budget to avoid financial strain.
  1. Make an offer: Work with a trusted real estate agent to navigate this process.
  1. Complete the mortgage application: Be prepared for extensive documentation requests.
  1. Home inspection and appraisal: Protect yourself by ensuring the home's condition and value.
  1. Underwriting: The lender's deep dive into your finances. Be responsive to information requests from loan officers.
  1. Closing: Review all documents carefully before signing.

Shopping for a Mortgage: Don't Leave Money on the Table

Lenders count on borrowers not shopping around. Don't fall into this trap. Get loan estimates from multiple lenders and compare them carefully. Look at:
  • Interest rates
  • Annual Percentage Rate (APR)
  • Closing costs
  • Loan terms and options
  • Any special features or requirements
Consider your debt-to-income ratio and how it might affect your loan options. Use comparison tools to simplify this process and ensure you're getting the best deal possible.

The Bottom Line

Mortgages are purposefully complex, but understanding them is crucial to making smart financial decisions when buying a home. Educating yourself and shopping around can potentially save tens of thousands of dollars over the life of your loan. Remember:
  • Mortgages are long-term financial commitments with significant implications.
  • The complexity benefits lenders - don't be afraid to ask questions about different types of mortgage loans.
  • Always shop around and compare loan estimates before committing.
  • Consider working with a mortgage broker or financial advisor to navigate the process and understand your loan options.
Knowledge is your best tool in negotiating a mortgage that works for your financial situation, not just the lender's bottom line. Take the time to understand your options, and don't hesitate to seek professional advice if needed. Your future self will thank you for the effort you put in today.

Resources to Check Out

Want to dive deeper? Here are some great resources:
Got questions about conventional mortgages, adjustable-rate mortgages (ARMs), or other loan options? Don't hesitate to ask!

Written by

Benjamin Schieken
Benjamin Schieken

Founder of Fincast, ex-Mortgage Loan Officer