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Mortgage Basics

Get the facts before you buy

Your mortgage is most likely the biggest loan you'll ever take out. Before you talk to a mortgage broker, make sure you have at least a basic understanding of common terms and types of mortgages. Here are some questions and answers to help you get started.

What is a mortgage?

Legally, a mortgage is a lien on a property or house that secures a loan and is paid back in installments over a set period of time. Basically, your mortgage is your promise to pay back the money you've borrowed to buy your home.

What is the term of a mortgage?

The term of your mortgage is the amount of time you have to repay the mortgage loan. A 30-year fixed mortgage is a common term. However, shorter-term mortgages, say 15 years, are also available. A longer-term mortgage may mean lower monthly payments. A shorter-term mortgage means you'll pay the loan off faster.

Our Two Cents
Can't decide between a 15- and a 30-year mortgage? If you have a 30-year mortgage, you can always pay more toward the principle each month if you choose. This way you can work toward reducing the amount of time it will take to pay off the loan, but still have the flexibility of paying less when you want.
How much is a down payment?

A down payment is the part of the purchase price of a property that you pay in cash up-front—and don't finance with a mortgage. Most down payments are 20 percent of the purchase price. You can sometimes buy a property with a smaller down payment, but you may be overextending yourself and your mortgage will probably be more expensive. In this case, you will also need to purchase mortgage insurance.

What are closing costs?

Closing costs are additional costs necessary to transfer ownership of a property and to complete your mortgage transaction. These may be paid by the buyer and/or the seller, and may include a loan origination fee, attorney's fee, appraisal fee, survey fee and charges for obtaining title insurance. Closing costs will vary according to geographic location.

What are points and who pays them?

Points are a percentage of the loan amount paid at closing that may affect your interest rate. For instance, on a $90,000 loan amount, 1 point would be equal to 1 percent or $900. If you pay points, you might get a lower rate. Sometimes, in exchange for a higher rate, the lender may pay points to offset your closing costs.

What mortgage is best for you?

The best type of mortgage for you depends on your personal financial situation and how long you plan to stay in your home. Here are the two basic types of mortgages:

  • A fixed-rate mortgage has an interest rate that remains the same for the life of the loan. Your monthly loan payments are locked in for the entire term of your loan, meaning your interest and principal payments won't change.

    This loan may be right for you if:
    • You're likely to stay in your house for a considerable period of time—10 years or more
    • You want the security and comfort of having a set monthly mortgage payment
    • You're uncomfortable with the risk of fluctuating interest rates
    Special considerations: Fixed-rate loans generally have higher interest rates than adjustable rate mortgages—at least to start. On the other hand, you have the security of knowing that your interest rate and payments won't change.
  • An adjustable-rate mortgage (ARM) has an interest rate tied to a financial index that changes over the life of the loan according to a specified adjustment period.

    For instance, adjustment periods may be described as 1/1, 3/1, 5/1, 7/1 or 10/1. The first number represents the initial period of the loan during which the interest rate doesn't change. The second number refers to how often the rate can change after the initial period of the loan. So a 3/1 ARM would have a fixed interest rate for the first three years. After that the interest rate—and your payment—could change every year.

    This loan may be right for you if:
    • You're expecting to sell your property before the end of the initial fixed-rate period.
    • You're expecting to refinance your property before the end of the initial fixed-rate period.
    • You expect interest rates to be lower in the future.
    Special considerations: ARMs are usually priced lower than fixed-rate mortgages, so your initial monthly payment may be lower. On the other hand, after the initial fixed term, your monthly payments can increase if interest rates go up.

    Be careful of interest-only ARMs. With this type of mortgage, no payment is made to the principal for a specific period of time (usually 5–10 years), meaning you're not decreasing your loan balance. Your initial payments may be lower, but can increase if the interest rate increases. And once the interest-only period is over, your payment will definitely increase—even if the interest rate remains the same—because you'll have to pay both principal and interest.
Our Two Cents
When it comes to getting the best mortgage rate, it pays to shop around. There are several online sources for comparing rates, fees and terms. Also look at a lender's range of options, as well as the level of service and attention you can expect. Ideally, a good lender won't start talking about what they have to offer until they've listened to you first!

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