You found your dream home, but now you need a mortgage that doesn’t keep you up at night. It’s too bad there isn’t a Schoolhouse Rock about financing your home. If you find terms like escrow and APR confusing, you aren’t alone. When looking for a mortgage, you may run into some unfamiliar lingo. Here are a few definitions to get you started.
Adjustable Rate Mortgage (ARM)
As the name implies, your interest rate adjusts over the life of the loan. ARMs can begin with a fixed-rate period – usually around 5 years -- then adjust up or down on an annual or semi-annual basis per your terms. You will see 5-year or 7-year ARMS in which the year denotes the time period your initial rate stays fixed. After this time period, the interest rate moves up or down depending on certain market conditions specified in your loan. ARMs often can start with a lower rate than fixed loans, but after your fixed term interest rates may rise. Make sure you understand how the loan will adjust over time.
Annual Percentage Rate
The APR is an all-encompassing cost of borrowing money. It not only includes your interest but other expenses too like closing costs and origination fees. The APR is meant to give you a clear picture of what you’ll actually pay for the loan and help you compare mortgages offered by different lenders.
Closing costs are the fees you pay to finalize your mortgage. Depending on where you live, closing costs can range between 1% to 5% of the loan amount and may include title insurance, appraisals, taxes, and more.
Earnest money is a deposit made by a buyer to show they are serious about buying a home. It protects the seller if the buyer backs out. Be sure to pay attention to your earnest money deadline. If you back out after this date, you can lose your deposit. Your deposit is held in escrow until the real estate transaction is complete and will be used toward your down payment.
Escrow may be required as part of your loan terms. A portion of your mortgage payment goes into an escrow account, which your lender uses to pay your real estate taxes, homeowners’ insurance, flood insurance and PMI directly. You may qualify to have escrow removed in the future, but if you do remove escrow, then you become responsible for paying these things on your own.
Fixed-rate mortgages have a fixed interest rate and payment amount that doesn’t change over time.
Loan-to-value, or LTV, is a formula used by banks to help determine your interest rate and the amount you are eligible to borrow. Your lender takes the total amount borrowed, your mortgage loan amount, divided by the appraised value.
Private Mortgage Insurance
Private Mortgage Insurance is sometimes referred to by its acronym. PMI protects the lender if the borrower stops making loan payments and is typically required if you have a conventional loan and put less than 20 percent down. The cost of PMI may be rolled into your mortgage and typically included with your escrow amount.
Lenders may offer you the option to “purchase” points, which are fees the borrower pays upfront to buy a lower interest rate. A lower interest rate can lower your monthly payments but each point will cost you. Look online for mortgage points calculators and other tools to help determine if this option makes sense for you.
A mortgage pre-approval is the loan amount a lender can offer you under specific terms. Having a preapproval letter shows home sellers you're a serious buyer and can help you rise above competing offers or help ensure you do not lose a bidding war. It also helps you determine how much house you can afford.
The principal balance of a mortgage loan is the amount of money owed to the lender, not including interest. If you borrowed $250,000, that’s the principal. However, buyers must pay back the principal plus interest over the life of the loan term.
Title insurance protects your claim of ownership. A title search entails combing through municipal records to ensure that the seller is the legal owner of the property and there are no liens or claims against it.
When you’re ready to buy or refinance a home, Citizens Bank is here to help provide personal assistance and answers any questions. We can help make sense out of all your financial options when purchasing a home.