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Loan Program Descriptions
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One year adjustable |
A mortgage whose rate and payment change once a
Year. When the rate/payment changes, the change is subject to an
index (which is the part that changes) plus a margin which is added
to the index to give the "market rate". A common one year
adjustable uses the one year treasury as the index plus a margin of
2.75%. If today's index is 5.75% then the market rate would be
8.5%, and that would be the rate for the next 12 months. There are
often "caps" applied to the loan. A typical annual cap is 2%
which means the loan rate cannot increase or decrease more than 2%
each year. To illustrate, if you started at 4.5% with an annual 2%
cap, it would take 3 years to reach the 8.5% market rate described
above. There are also lifetime caps above which the rate can
never go. If you prepay a loan of this type, the payment, the next
time it adjusts, would be based on the balance and rate at the time
of the change which could result in a lower payment.
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3/1, 5/1, 7/1, 10/1 |
You can take the one year adjustable as
described above and fix the first 3, 5, 7 or 10 years of the
loan. At the end of the fixed term, the loan reverts to the one
year adjustable for the remaining term of the loan.
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Fixed Rate |
A mortgage where the rate and payment do not change over
the entire term of the loan. If you pre-pay this type of loan, the
payment does not change but the term (time remaining) will be
shortened.
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Monthly Adjustable |
This is a somewhat complex product that allows great flexibility in managing your mortgage. The primary feature is
that the payment is set at a low rate (with annual payment caps) that is lower than the actual interest rate
on the loan. You therefore have several options for payment. First, you can pay the minimum payment
with the difference between that payment and the actual interest charge being added to the loan balance
(negative amortization). Second, you could pay the actual interest charge with no change in the loan balance.
Third, you can pay the amount necessary to amortize the loan over the remaining balance of the loan or you could pay more.
This product can be very attractive to people with varying or seasonal incomes or bonuses.
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Other essential information
Credit
Credit is an essential part of the mortgage process. Your approval,
pricing and terms will be directly affected by the entries in your credit profile (consumer credit file).
These entries/records can go back up to 10 years. The way you pay your bills
and the amount of credit you use (relative to the maximum credit available) and age of your accounts
are the most significant factors.
Credit scoring is now a major part of the mortgage process. It is essentially a statistical method
of determining credit risk yielding a numerical score. Scores above 720 are considered excellent and may result
in reduced documentation and appraisal requirements for some types of loans. Typically scores above 680
are required for many reasonably priced no-income verification loans. Scores below 620 can result in loans
with increased pricing or lower loan to values. Please note that the scores are only one of several
factors that determine the final result.
Appraisal
An appraisal is an estimate of market value based on three approaches to achieving that value.
The cost approach is based on the cost to replace the structures (improvements) and the land value.
The income approach is a value based on the income the property could generate.
The comparison approach is based on sales of other similar size, location, condition, etc. properties
with adjustments for their differences. The comparison is the most common approach for residential properties.
Value
Value is ultimately what a buyer and seller agree that a property is worth.
Perception of location, layout, privacy, schools, urgency, family needs etc.
can result in purchase prices higher (or lower) than can be supported by an appraisal.
Insurance
There are three types of insurance that apply to the mortgage process.
Homeowners or hazard insurance that incorporates the fire policy that covers the loan amount
(so the lender's loan will be repaid) or replacement value which will cover rebuilding the structure.
Private mortgage insurance which protects the lender against your default if you have less than 20%
equity in the property. Mortgage insurance which is basically a life insurance policy to pay off the remaining
balance of the loan in the event of the insured's death (not recommended).
Escrows
Escrows are accounts set up and held by the lender to pay real estate taxes and insurance bills when they are due.
For homes with high real estate taxes, it can be better to waive escrows and pay them yourself. For those with
more modest taxes, the convenience probably outweighs the small amount of interest you lose. In the event of problems
in an account resulting in unexpected increases, the lender is responsible
and typically will spread out the shortage over the next 12 months payments (a good thing for the borrower).
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