Take today’s attractive mortgage rates, sprinkle in a housing inventory that’s in short supply and and an up-and-down economy and it’s a a wild time to be in the market for a new home.
Have no fear, homebuyers! Even though the world of mortgage lending can be a scary place — filled with abbreviations, acronyms and other jargon that you may not understand — it doesn’t have to be. We’ve defined a half dozen of the most common mortgage terms to help guide you through your home buying journey! And next week we’ll follow up with six more.
6 not-so-scary homebuying terms you should know
1 — Annual Percentage Rate (APR)
This is not the same as a mortgage interest rate or lender’s fees. Your loan’s annual percentage rate is a value showing how much it costs each year to finance your home, taking into account the interest rate and other fees you may have to pay to close the loan. It’s useful when you want to make a side-by-side comparison of different loan offers. Learn more about how APR differs from an interest rate.
2 — Debt-to-Income (DTI)
This is the difference between your overall debt and annual income. Lenders use the DTI ratio to determine if you’ll be able to afford your monthly mortgage payments while still repaying your other debts. Could your debt put the brakes on your mortgage application? Learn more about DTI here.
3 — Gift Money
More often than not, you’ll be required to pay some money in the form of a down payment before a mortgage company agrees to provide financing. Depending on the type of mortgage you are applying for, your down payment could range anywhere from 0% to 20% or more — the higher the down payment, the easier it is to potentially land a low interest rate and avoid added expenses like private mortgage insurance. One way to dull the pain of coming up with that wad of cash is to use a cash gift from a relative. For the gift payment to be allowable, the person giving you the gift money must deliver a letter to the lender specifying that it is indeed a gift and that repayment is not expected. Here’s everything you need to know about gift money.
4 — Loan-to-Value (LTV)
This is a factor lenders use to help determine the risk of loaning money for a specific property. Specifically, it’s the value of the loan amount in ratio to the value of the property. The higher the LTV is, the more risk a lender will be taking on by financing your home. Having a good credit report can help alleviate some of the risks, but if your credit isn’t in tip-top shape, you may have a hard time getting approved with a decent interest rate. You can reduce your LTV (lower is better) by making a more significant down payment. Discover how LTV can affect your mortgage application.
5 — Private Mortgage Insurance (PMI)
This insurance may be required if your down payment is less than 20% of your home’s purchase price. PMI is basically a safety net for the mortgage lender, protecting them against losses if you default on your loan. How much PMI will cost will depend on your credit score and the amount of your down payment. Typically, it can be anywhere from less than one percent to 1.5% of the total loan amount, but your case may be different. Whatever the amount is, one thing remains the same: PMI is calculated annually, divided into 12 payments, and included in your mortgage each month. Read up on private-mortgage insurance.
6 — Refinance (Refi)
When mortgage rates drop, you may want to take advantage of a home refinance. Perhaps money is tight, you want to lower your monthly payments or you’re looking to finance some home improvements and need a little extra cash. Essentially, it’s a new mortgage with new terms that replaces the original and gives borrowers an opportunity to get a better interest rate. That can result in a lower monthly mortgage payment, which can help you free up some capital and be a fiscally smart choice over the long-term. Learn about refi options.
Mortgage terms are nothing to be scared of
So now that you know more about the terminology and odd abbreviations sprinkled throughout the mortgage process, why not speak with a mortgage professional in your area who can look at your unique situation and tailor a mortgage that’s right for you.
If you’re not quite ready yet, that’s fine. We’ll have another six not-so-scary mortgage terms in next week’s blog!