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First-Time Home Buyer: Mortgage Terminology 101

Buying your first home is a monumental moment. That said, the process can be confusing for those who have never been involved in the housing market. There’s a set of terminology a homebuyer should be familiar with before getting started. Let’s review the most misunderstood language in the mortgage industry so you can feel better prepared as you search for a home.

Appraisals

Once you’ve decided on the home you would like to purchase and your offer is accepted, the next step is getting an appraisal completed. This is usually a requirement from your mortgage lender. An appraisal is done to verify the value of the home. During the appraisal, the company chosen to conduct the evaluation will review the interior and exterior of the home. When they’re finished, they will send an appraisal report with local estimations of the value of similar homes in the area.

Adjustable-Rate Mortgage (ARM)

One option for the type of mortgage you can choose is an adjustable-rate mortgage. With this type of mortgage, your interest rate is dependent on the market and could increase and/or decrease throughout the life of your loan. Typically, when you choose this option, your interest rate will be lower at the start of your loan, but it gradually increases as time goes on. This option tends to be popular for those who plan to pay their mortgage off in a shorter period. There is also the option for a fixed-rate mortgage, where your rate remains the same throughout the life of the loan, which is the most preferred option for homebuyers.

Conventional vs. FHA Loans

The two most common loans a homebuyer can obtain are the conventional loan and the Federal Housing Administration (FHA) loan. If you have a credit score of 620 and above, you will likely be approved for a conventional loan — although, it’s important to note that doesn’t mean it’s your only choice. In most cases, if you have a credit score lower than 620, you’ll get approved for an FHA loan. This loan type is regulated by the government and provided by a private lender. During the process of pre-approval, your mortgage loan originator or mortgage broker will guide you toward the option that best suits you and your situation.

Disclosures

Throughout the home buying process, you will receive documents both digitally and physically in the mail to your current residence. Most of this paperwork will be your disclosures. This could include documents such as your loan estimate or closing disclosure. Lenders are obligated to send disclosures to home buyers within a certain period of time. Be sure to always keep, date and file all paperwork received to show proof that these legal documents have arrived. Keeping these documents on file will also allow you to review them as needed.

P.I.T.I.

This term will affect you the most as a homebuyer. The acronym represents items that are included in your monthly mortgage payment:

• Principal: This refers to the amount of your payment that goes to the principal balance on your loan. This is the only amount of the payment that will bring down your overall mortgage total.

• Interest: This is the amount that is being charged by the mortgage lender for loaning you the money.

• Taxes and Insurance: These words represent third-party charges you’ll pay for taxes and homeowner insurance. In most cases these amounts are placed in an escrow account. Your escrow holds these payments until they distribute the funds to both the IRS and the company that holds insurance coverage for your new home. An additional thing to take into consideration is the potential for mortgage insurance. This is insurance that protects your mortgage lender from taking a loss if you default on your loan.

Feeling confident during the process of purchasing your first home can set you up for success. Knowing these terms will allow you to be aware of where your money is going — and the why behind it. Take charge and be involved in the purchase of your home, but also know that the professionals have a fiduciary responsibility to place you in the best position possible. Do your research and ask any questions to make yourself comfortable because the cost of a home is a debt that should be taken seriously. Purchasing a home is a big deal, but being prepared and informed will help prevent stress throughout the process.

Sources:

https://www.consumerfinance.gov/owning-a-home/loan-options/fha-loans/#:~:text=FHA%20loans%20are%20loans%20from,money%20directly%E2%80%93private%20lenders%20do

https://www.consumerfinance.gov/consumer-tools/mortgages/answers/key-terms/