Basic Mortgage Terminology Every Borrower Should Understand

An understanding of basic mortgage terminology is useful for individuals preparing to buy a house or any property. The more you understand about home loans and the lending process from the start, the more comfortable you will feel making important decisions regarding your mortgage and North Carolina home purchase. In previous Buyer’s Guide articles, we discussed the types of mortgages. In this article, we’ll review basic mortgage terminology every borrower should understand.

Interest Rate

The interest rate is the rate a lender charges a home buyer to borrow money that will be used to purchase or refinance a home. Borrowers can choose from two mortgage types: fixed-rate mortgage or adjustable-rate mortgage. The Consumer Financial Protection Bureau outlines 7 key factors that determine your mortgage interest rate: credit score, home location, home price and loan amount, down payment, loan term, interest rate type and loan type.

Annual Percentage Rate (APR)

While borrowers often focus on the interest rate of their mortgage, it is also important to understand the APR of a loan. The Annual Percentage Rate on your home loan includes your interest rate and other fees (points, underwriting fee, pre-paid interest, processing fee, etc.) included over the life of your loan and represents your total annual cost of borrowing. Buyers considering loans from various lenders should always compare APRs quoted by those mortgage lenders.

Amortization

A simple definition of amortization is the paying off of debt with a fixed repayment schedule based on regular installments over a period of time. When it comes to your mortgage, your amortization payments mostly go towards interest early on in the life of the loan. As you continue to pay, more money will eventually go toward the principal amount.

Private Mortgage Insurance

Often called PMI, private mortgage insurance reimburses the lender if you default on your home loan. Borrowers whose down payment is less than 20 percent will have to pay PMI. The fees for this additional cost depend on a borrower’s credit score and size of down payment. PMI fees, along with insurance and taxes, are added to your monthly mortgage payment.

Points

Individuals who want to buy a new home in North Carolina are often confused by the term “points” as they review mortgage quotes from lenders. Simply put, a point is a fee equal to 1 percent of the loan amount. There are two types of points: origination points and discount points. Origination points cover the lender’s costs of making the loan. Discount points are prepaid interest on the loan. In another Buyer’s Guide article, we cover points and the pros and cons of mortgage points in more detail.

Pre-Payment Penalty

Think it would be a good idea to pay off your mortgage early and own your house free and clear? Before you make that decision, review your loan terms to see if your mortgage contains a pre-payment penalty. This basic mortgage term is exactly what it sounds like – a fee (penalty) a borrower is charged for paying off the loan before the loan term expires.

Escrow Account

Often, a portion of a borrower’s monthly mortgage payment funds an escrow account which the mortgage company uses to pay taxes and insurance when they come due. When your mortgage payment includes PITI (principal, interest, taxes and insurance), you will have an escrow account. Not all lenders require an escrow account. In most cases, it is the homeowner’s responsibility to pay the homeowner’s insurance and property taxes directly.

Loan to Value Ratio (LVR)

When you buy a home in North Carolina or another state, Loan to Value Ratio refers to the amount of financing you are getting in relationship to your new home’s value. Here’s real-world example of LVR: a buyer with a $160,000 mortgage on a $200,000 home has an LVR of 80 percent. Remember PMI that we discussed earlier. If the LVR was 90, that would mean the borrower only put 10 percent down and would have to make PMI payments each month.

Are you just starting the process of preparing to buy a home in Raleigh, Chapel Hill, or Durham? We would love to help! Work with our team and take advantage of innovative real estate technology and a team of experts who have been delivering successful results to North Carolina home buyers for the past decade. Contact us today to learn how we can help you purchase the perfect home at the perfect price.