How Does a Mortgage Work?

Because most people do not have the cash to purchase a home, they obtain a home loan, or mortgage, to help pay for it. The things below are part of the mortgage and the mortgage or loan process.

The Annual Percentage Rate (APR) - The annual percentage rate is the cost of the loan expressed as a yearly rate. All lenders follow the same rules to calculate the APR so it is a good way to compare the costs of your loan. The finance charges for your loan will also include any points and fees assessed, and will be reflected in the APR for your loan. The APR is intended to show the the real cost of the loan by adding all the charges that would not be part of the deal if you could pay cash for your home.

The Mortgage Closing - The closing is a meeting where all the necessary paperwork is completed to transfer ownership from the seller to you. The closing costs will include fees that you pay for the services of the lender and all the other costs involved with the sale of the home.

Your Down Payment - The down payment is the cash that you pay toward the purchase price of your home at the closing. Your mortgage is the amount of money you borrow. Together, the down payment plus the loan make up the purchase price of the home you are buying.

Your Home Equity - This is an amount equal to the home's current market value, less amounts that you owe on your mortgage and any additional mortgage or line of credit you owe on where you used the home as collateral for the loan.

Escrow - An escrow or escrow service involves use of a trusted third party to gather all the closing documents and money for both the seller and the lender. The escrow agent prepares the documents, pays off existing loans, requests title insurance, and divides tax and insurance payments between you and the seller. (In some states an attorney provides this service)

Impounds - Borrowers may elect to add monthly installments for their expected property taxes and homeowner's insurance with the monthly mortgage payment. The portion of the borrower's monthly payments are thereby held by the lender in order to pay the taxes, insurance, and other items as they become due.

Mortgage Interest Rate - The basic cost of borrowing the loan money as an annualized percentage.

Lock-In - A lock-in is a lender's promise to hold an interest rate and a certain number of points for a period of time while the loan application is being processed. The lock-in can be 15, 30, 60 days or more.

The Loan Maturity Date - The date the loan is scheduled to be completely paid off.

PITI - This is an abbreviation for Principal, Interest, Taxes and Insurance - these four items may be included in your mortgage payment.

Points - A point is equal to one percent of the amount of money you borrow. Points are frequently charged at the origination of the loan and are a part of the cost of borrowing the money.

Second Mortgage - Any loan you take out on a home made after the original (or first) mortgage loan, or any loan in a junior position to the first mortgage is referred to as a second mortgage. Second mortgages are made by lenders based on the equity you have in your home. They can be taken out to make home improvements, consolidate debt, etc.