Everything You Need to Know About Your First Mortgage
Posted By Macey Farnsworth on May 14th, 2019
According to a recent survey by the National Association of Realtors (NAR), first-time home buyers are more likely to do their research and shop around for the best mortgage than consumers who have bought homes in the past.
That’s good news because it shows that newbies appreciate the impact that interest rates and terms can have on the lifetime cost of their loan.
Still, shopping for a first mortgage can be a time-consuming and stressful process. Since first-time home buyers have never experienced the process, most are unfamiliar with the steps involved; in fact, the NAR survey found that only 24 percent understood the different types of loans that are available.
So, what are the key factors that first-time buyers should know about when securing a mortgage loan? Let’s find out.
Understand the Lingo
First, here are a few of the standard terms realtors and bankers use, in the order of the buying process.
- Earnest money: Cash you pay to show you're seriously interested in buying a given house. If you wind up signing on the dotted line, the bank will apply the earnest money toward the purchase. But if you decide not to buy the property, you'll forfeit your earnest money.
- Down payment: Cash you pay toward the cost of the home. The bank loans the remaining balance to you in the form of a mortgage. A down payment of twenty percent of the price of the property will exempt you from paying mortgage insurance (see below).
- ARM or Adjustable Rate Mortgage. The interest rate for this type of mortgage periodically adjusts (goes up or down) depending on a specific market index such as U.S. Treasury Bills. Buyers benefit as long as the numbers are low, but might wind up paying much more over the life of the loan if rates go up.
- Fixed-rate mortgage: a mortgage loan with an interest rate that remains fixed for the life of the loan.
- Mortgage insurance: If you can't put much money down, lenders will usually require that you have insurance that will protect them if you wind up defaulting on your loan. Also called Private Mortgage Insurance, the bank will roll the cost into your monthly mortgage payment.
- Closing costs: In addition to the actual price of the home, the purchase of real estate involves transaction and settlement fees. These are commonly called closing costs because buyers pay them to complete the purchase. However, buyers may be able to negotiate with sellers and reach an agreement in which the parties will split closing costs. And motivated sellers may even agree to pay all of the closing costs themselves.
NOLO offers a more comprehensive list of terms first-time home buyers should study before meeting with lenders, as does Realtor.com. And if you really want to dig in, there are dozens of books and guides that you can buy on Amazon.
Related Story: 13 Things First Time Home Owners Need to Know
Estimate How Much Banks will Loan You
It's hard to shop for a house if you don't know how much you can afford to spend. Thus, estimating the amount of money you might get from a lender is an essential part of the process. What's more, you don't want to borrow so much that the monthly payment is more than you can afford to pay.
Banks will be more willing to loan you money if you can show that you're in a favorable financial position. Having a high credit score is the most crucial factor, but a steady employment history helps too.
As a rule of thumb, your total cost for housing, including mortgage interest, property taxes, and add-ons like homeowner association fees, should be no more than 28% of your after-tax income.
Use an online mortgage calculator to learn what your monthly payment would be at any given price point, and then consider the inverse: if a $250,000 loan results in a monthly cost of $1,200, and your income is at least three times that amount, you’ll be able to afford a home that costs between $200,000 and $250,000.
Consider Your Options
Sometimes first-time home buyers assume that their best bet is to apply for a mortgage at the bank they've always used for checking and savings, but unless you've experienced consistently excellent customer service at your current bank, there's little reason to choose them over any other institution.
Online banks, traditional financial institutions, and credit unions are all viable choices.
When comparing lenders, consider:
- The interest rates they offer
- Any special incentives, such as discounts for first-time buyers
- Availability of special programs, such as discounts for veterans
- Reputation, online reviews and recommendations from friends and family
Make an appointment to speak with a Mortgage Loan Officer at each of your two or three top choices, either by phone or in person. Ask them to walk you through the buying process, and get clarification on anything that is confusing or unknown to you.
While your loan officer won't be in the picture once you've purchased your home, making sure they are friendly, helpful and considerate will give you peace of mind during the buying process.
Gather Your Forms and Documents
Once you've selected a mortgage lender, you'll need to collect a variety of personal and financial information. Banks require proof of income, in the form of tax returns, W2s and pay stubs, as well as account statements for savings and investments, proof of ID and rental history, if applicable.
If some or all of your down payment was given to you by a family member, you'll need a letter from them, specifying that the money was a gift and not a loan. And of course, the bank will ask your permission to check your credit history.
Putting it All Together
Buying your first home is a big deal, but it doesn't have to be scary. If you learn about the process, do your research, ask questions and make sure you're staying within budget, you and your loved ones will be enjoying family movie night in your new home before you know it.