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Mortgage Amortization: tips and tricks you need to know
Learning, Purchase Mortgage, Refinance Mortgage, Shopping Mortgages Now

Mortgage Amortization: Tips and tricks every homeowner should know

There is no doubt that mortgages are a good thing. Homebuyers use mortgages to purchase real estate and current homeowners access cash using cash out refinance loans. These macro-benefits can be hard to dispute. Mortgages do have some less than desirable traits. One of these is mortgage amortization.

If this statement has you puzzled, then read on.  This information could save you time and money.

Mortgage amortization definition

Mortgage amortization is the process of paying off a mortgage balance with regularly scheduled, equal payments. To ensure a solid understanding, let’s break this definition down into two parts.

“the process of paying off a mortgage loan”

The actual task of paying off a mortgage loan is similar to most other loans.  Homeowners send a check or set up a monthly draft to cover the required monthly payment. Homeowners make this payment over a period of time, called the loan term. The most common term for a mortgage today is 30 years (360 months).

Virtually all residential mortgages are paid off over several years.  Some mortgages can require full repayments, called balloon payments, at a specific point in the future. Balloon payments are not allowed for most residential mortgages, so we’ll focus on a traditional full term mortgage loans.

“with regularly scheduled, equal payments”

As mentioned above, mortgage amortization is associated with a monthly repayment schedule. Mortgage payments are due on the same day each month and lenders will dictate the minimum payment required in advance.

A monthly mortgage payment is made up of several different items. Some of these, such as property taxes and homeowner insurance premiums, can change over time. [What goes into a mortgage payment?]

We will examine the portion of the mortgage payment associated with paying down the mortgage debt.  To be specific, we will evaluate mortgage interest and mortgage principal payments only.

Mortgage amortization in action

With the definition of mortgage amortization behind us, let us step into the action!  By examining a typical amortization schedule, we’ll solidify our understanding and make some key discoveries.

Mortgage amortization example

For the example, we will use current data from the housing market. This will allow us to examine an amortization schedule for an average homebuyer in today’s environment. Here are the numbers:

  • New home purchase price*: $312,000
  • Down Payment Amount**: $15,600 (5% of purchase price)
  • Starting loan amount: $296,400
  • Mortgage loan term: 30 years
  • Mortgage Interest Rate***: 4.00%

Given this information, homeowners will pay $1,415.06 towards interest and principal each month. Next, let’s examine how this payment is applied over the course of 30 years.

Mortgage amortization in the first year

Our average homeowner will make a mortgage payment in the amount of $1,415.06 each month.  (Remember that this amount does not include taxes, insurance and other potential items.)

In the first month, his payment will reduce the mortgage balance by $427.06 and pay the lender $988 in interest. The mortgage balance after the payment is $295,972.94.

1 month amortization

Key Discovery #1:  In the first month of paying a mortgage, this homeowner reduced his mortgage balance by just $427.06, despite making a $1,415.06 payment. Nearly 70% of the payment went to the lender in the form of interest.

Over the course of the first year, the homeowner pays slightly more towards principal each month.  He also pays slightly less towards interest each month. By the end of the first year, the homeowner pays a total of $5,219.69 towards his mortgage balance.  This represents just 1/56th of his beginning loan amount.

12 month amortization

Key Discovery #2: In the first year of a 30-year amortization schedule, 1/56th of the loan balance is paid, despite 1/30th of the 30-year loan term being completed.

To ensure this sinks in, ask yourself this question: If you obtained a 30-year mortgage, would you expect to reduce the balance by about 1/30th each year?  Seems logical, doesn’t it?  Think again.

In actuality, you would not pay 1/30th of the loan in the first year. Rather, you would pay just 1/56th of the loan balance in the first year, leaving you with 98.3% of the loan to be paid in the remaining 29 years!

Let’s now take a look at the last 12 months of this same amortization schedule.

Mortgage amortization in the final year

Our homeowner has been diligent about paying his mortgage for 29 years.  With just 12 months left, he continues to pay $1,415.06 each month until the day the mortgage is gone.

You’ll find the last 12 payments detailed below.  In this final year of the mortgage, the homeowner pays a total of $16,618.45 in principal to eliminate his mortgage completely.

Mortgage Amortization last 12 months

Key Discovery #3:  This homeowner reduces the loan balance by 5.6% ($16,618.45) in the final year. This represents 1/18th of the balance, despite only 1/30th of the loan term being completed.

If the difference between the first year and final year hasn’t jumped out at you yet, let’s review the data.

First Year vs. Last Year

Comparing the first year to the final year of a 30-year mortgage amortization schedule exposes significant differences.

Amortization comparison

Notice that $11,398 more is paid towards the loan balance in the final year of the amortization.  Said another way, 3.85% more of the mortgage balance is being paid down in the same one-year time period.

Mortgage amortization favors your lender

So, how does the mortgage amortization schedule favor your lender?

Lenders collect the bulk of their interest early in the mortgage term. This results in a slow mortgage balance pay down for a homeowner. In the first year example above, the homeowner paid $16,980.72****, to find only $5,219.69 went towards the principal balance.

Homeowners receive no credit for “mortgage time served.” Homeowners who refinance a mortgage will find their new mortgage also starts from the same inefficient position detailed above.

Homeowners who sell and then buy a new home will experience a similar inefficiency. The first few years of mortgage payback while living in the first home will benefit the lender far more than the homeowner.

Tilting the scale in your favor

So what can be done to ensure your dollars are used efficiently?

Consider obtaining a shorter term

We evaluated the stark contrast between the first year and last year of a 30-year amortization schedule. Mortgages with shorter terms will be more efficient with respect to interest and principal payments.  They will also come with larger required monthly payments.

What if you want the benefit of a shorter term, but the flexibility to make lower payments when needed?  One option is to consider making extra payments on a 30-year mortgage term.

Consider making extra payments

Money paid in excess of the minimum monthly payment will be applied to the principal balance.  When the principal balance is reduced, future interest charges decrease.  We saw this happen in the examples above and we will be examining it here one more time.

Let’s see this in action using the first year’s amortization schedule.

12 month amortization

The homeowner makes his first six payments according to the schedule above. The 6th payment reduced his principal by $434.22 and paid interest of $980.83. He is now due for his 7th payment.

After picking up a lucrative side hustle, the homeowner decides to accelerate his mortgage payback. He reviews the amortization schedule, noting that his 7th and 8th principal payments are $435.67 and $437.12. He then adds $437.12 to his 7th mortgage payment, allowing him to skip the 8th month completely. As a result, the homeowner saves all the interest he would have paid in the 8th month: $977.94.

This is possible because a homeowner’s position on the amortization schedule is determined exclusively by the remaining principal balance. Accordingly, the homeowner can continue to add money to his payments and accelerate his mortgage payoff, saving thousands in interest along the way.

 

 

Data Sources:

Legal Disclaimers:

  • Tax implications or considerations are not included in this review
  • This is for illustration purposes only – loan terms will vary for each homeowner
  • This is not an offer to make a loan in any form

 

 

Weekly Top Stories
Weekly Update

Weekly Top Stories – Tax Reform, 2018 home sales, bogus “coins” scheme

Top mortgage and real estate stories from this past week.Click To Tweet

Here are the top stories from the past week:

Forecast predicts more home sales in 2018

A National Housing Forecast predicts that 2018 should mark a turning point for the nation’s longtime housing shortage. Could this mean more affordable homes for millennials entering the market?  Perhaps.

Tax Reform and Mortgage Interest Deduction

The National Association of Realtors estimates that more than 32 million tax returns claim the mortgage interest deduction.  But it is changes to the standard deduction that actually impact home sales.

Entry-level homes driving price appreciation

The chief economist at Core Logic stated that the escalation in home prices reflects an acute lack of supply and a strengthening economy.

13-fold profit in a month?  SEC says “Halt!”

The U.S. Securities and Exchange Commission won an emergency asset freeze to stop an initial coin offering that defrauded investors.

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Weekly Top Stories
Weekly Update

Weekly Popular Stories: Bigger mortgages getting easier, home price & rental increases

Top mortgage and real estate stories from this past week.Click To Tweet

Here are the top stories from the past week:

Bigger mortgages are getting easier 

The upper limits for conforming loans, loans that “fit the box” and typically receive the best terms, are increasing for the second straight year. The new limit for single family properties in 2018 will be $453,100, an increase from the $424,100 limit in 2017.

Home prices continue to escalate

Home prices rose at the fastest pace in 3 years in September according to S&P CoreLogic Case-Shiller Indices. Seattle led the pack increasing nearly 13% year over year. Price gains are putting increasing pressure on housing-affordability levels, making mortgage shopping more important.

Skyrocketing rents make mortgages more attractive

Renters in today’s market are paying nearly $2,000 more annually. As a percentage of income, rents have increased from 25.8% to 29.1% in recent years. Meanwhile, homeowners have seen the opposite.

Pending home sales rebound after 3 months of decline

3 of the 4 regions in the US kicked the trend of decreasing home sales since June, although still below the levels from 2016 at the same time.

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Mortgage Down Payments
Articles, Down Payments, Home Buying, Learning, Loan Programs, Mortgage Topic, Primary Home, Purchase Mortgage, Shopping Mortgages Now, Single Family Home

Mortgage down payments

At first glance, it may seem as though large mortgage down payments and short loan terms are the key to saving money on a mortgage, but each of these decisions has its own benefits and shortfalls. We can help you put them in perspective so you can make the best choice with respect to your circumstances.

Deciding on a loan and mortgage down payment amount for your upcoming home purchase isn’t always easy. Several factors can impact which loan program you can, or should, use. Understanding options early on is a great way to save time and be sure you start the loan process in the right direction.

Review Your Finances And Credit

With so many types of loans and down payments available, how do you know which one is right for you?

Start by being honest with yourself about your finances.

How much money do you have for the mortgage down payment and closing costs?

Keep in mind that you need to save about 3% of the cost of the house for closing expenses. While you won’t need a down payment for VA and USDA loans, you will typically need a 3.5% down payment plus closing costs for FHA loans, and 5 to 20% down plus closing costs for conventional loans. A recent report from Ellie Mae found that the median mortgage down payment amount is 5% today, compared to 20% just 10 years ago!

To put that in perspective, a family buying a $400,000 home would have put down $80,000 10 years ago and just $20,000 today.  Quite a difference!

Have you taken care of your credit?

If your credit score is less than 620, you will not qualify for a conventional loan. If it is less than 740, your conventional loan interest rate will be higher than it could otherwise be. FHA requirements allow someone with a lower credit scores to purchase a home, as do other government-backed loans. Regardless of the loan program, a higher credit score is always better – so do what you can now to ensure you have the highest score possible when it comes time to obtain your mortgage loan.

Look At The Timing Of Loan Processing

Government-backed loans may require more inspections than conventional loans. Because of this, they could take longer to process. If you need to move in a hurry, government-backed loans may present unnecessary challenges. Remember that missing or out-dated paperwork is one of the top reasons for loan delays. So, be sure to stay on top of your documentation to ensure a smooth closing.

Look At Savings And Opportunity Costs

You may have a 20% down payment saved along with closing costs, but do you really want to spend it now? For conventional loans, you can put 20% down and avoid private mortgage insurance (PMI).  But you can also put as little as 5% down with PMI. Let’s look at an example to understand the costs and benefits of these two programs. For this example, we’ll consider these two options when purchasing a $250,000 home using a 30-year fixed rate loan at 3.5%.

Option 1: A $50,000 (20%) mortgage down payment results in a $200,000 beginning mortgage balance. This will translate to a $898 monthly payment in principal and interest.

Option 2: A $12,500 (5%) mortgage down payment results in a $237,500 beginning mortgage balance. This will translate to a $1,167 monthly payment in principal, interest and mortgage insurance.  Mortgage insurance makes up $101 of this total payment.

Many people would want to pay less per month, so they would choose the first option. However, that in order to save $269 a month, you would have to reduce your savings by $37,500! At $269 a month savings, it will take you 139 months—almost 12 years—to recoup this money. That’s a lot of time to live without a substantial nest egg!

Then, you have to look at opportunity costs. Said another way, what else might you want to do with this money? Perhaps you’ll be able to easily agree to a attend a friend’s destination wedding? Or maybe you’ll have the opportunity to buy the sailboat you’ve always wanted.  Maybe you are more practical and the money could be better off in an investment account? Regardless of what you do with it, the $269 a month savings has an opportunity cost worth considering.

Look At Length Of The Loan

Should you apply for a 15-year or a 30-year mortgage?

After looking at the numbers, most people agree the substantial savings in interest makes a 15-year loan an attractive option. In reality, affording a 15-year mortgage is more difficult and may result in being house poor, meaning that you can afford your house but little else.

Think of the opportunity costs associated with selecting a shorter term loan with a higher payment: A higher monthly housing payment results in less funds for investments, smaller retirement accounts and less resources to support a growing family.

Also consider how long you intend to stay in the home.

If you feel confident that you will remain in the home for years to come, then a shorter loan might be worth the interest savings. [See more here] On the other hand, if you plan to move on quickly, it might be better to use the monthly savings that comes with a longer term loan towards other things, even if it means simply saving the money for your next move.

If you aren’t sure, you can always go with a 30-year mortgage and make larger payments to pay off the loan faster.  Following a 15-year schedule by paying extra payments gives you a shorter loan with the flexibility to fall back to a 30-year schedule if needed. Remember that in these cases, once you pay money into your mortgage you need to “ask” for it back by applying for a new loan or second mortgage to access the equity.

With so many options available, it is important to compare rates and programs. In this way, you can determine which combination works best for you. At today’s low rates, you are sure to find many good choices so it is hard to go wrong!

Mortgage Shopping Confidence from MortgageCS
Articles, Down Payments, Home Buying, Investment Property, Learning, Loan Programs, Mortgage Process, Multi Family, Primary Home, Purchase Mortgage, Refinance Mortgage

Gain mortgage shopping confidence

Mortgages can seem complicated and intimidating, particularly in a world when we can “one click order” online.   How can you find out what you don’t know…but really should? How can you increase your mortgage shopping confidence?

When consumers shop for mostly anything, they evaluate the item or service they’re considering based on a predetermined set of criteria. Some considerations are easy, while others are more complicated. Mortgages tend to fall into the latter category. This is typically due to the intimidation factor and the perceived complexity of the product.

Mortgage loans come with an inherent, internal language the everyday consumer rarely encounters. If you wandered around a mortgage company, you’d hear phrases such as, “Where’s that VOD?” Not surprisingly, many of these phrases would be meaningless to you.

On the other hand, when someone decides they want to go out for a coffee, the choices are a bit more familiar sounding, and the decision most likely boils down to a matter of location and price. It’s pretty simple. While loan officers might wish the mortgage process were as easy as ordering a cup of coffee, it’s typically not.

Due to the varying factors of a mortgage transaction, borrowers should compare lenders based upon quoted interest rates and responsiveness, quality and trust. Consumers should approach mortgage education by explaining their needs and what they are looking to accomplish.

In this manner, they can find out more about the lender’s mortgage process and how loans are issued.

Finding a good mortgage loan officer

There is plenty of material online about how to shop around for the best deal on a mortgage. Certainly you want the best rate at the lowest cost, but you also need to consider the reputation of the companies you’re interviewing. But perhaps the process needs to be reversed.

When you call a loan officer and ask about a rate quote, the loan officer knows there’s competition.  He then provides the best available offering without considering all the details. The loan officer doesn’t have any reason to thoroughly evaluate your situation, so he falls into an all-too-familiar trap.  He provides a quote to win your attention potentially resulting in a bait-and-switch.

Here’s the problem with that: The quote alone doesn’t help lift the veil off the mortgage process or account for long term needs. It won’t ensure consumers make the right loan choice.  It won’t ensure that you come away from the closing with a clear understanding of what’s just happened and why. Yikes!

How can you, as a consumer, know what to ask to gain mortgage shopping confidence?

The surest path to pure mortgage nirvana is by communicating openly with the loan officers to facilitate learning early. This will be the best way to increase your mortgage shopping confidence.

Instead of considering only the interest rates, you should include a description as to what you are looking for.  Here’s an example: “Here’s my situation. I want low monthly payments, but I also want to save on long-term interest. I’m retiring in about 15 years and I want to be mortgage free.”

With this information, the loan officers know to quote you a rate on a program that matches your goals.  Surprisingly, that doesn’t necessarily mean a 15-year fixed rate loan.

A loan officer could suggest a 20-year loan, and set up a payment schedule that allows you to prepay just a little bit each month.  This would give you the security of a lower payment if ever needed. The extra payment would be applied directly toward the loan balance and would not go to interest.

Did you even know a 20-year loan was an option? Probably not, because most information you read is about either 30- or 15-year fixed rate loans. Instead of asking for a 15-year fixed rate and the associated fees, try explaining your current situation and what you want to accomplish.

Experienced loan officers know to include this information automatically, but unfortunately most get into a rate-and-fee game, leaving borrowers confused.

Another mortgage shopping example

“I need a quote for a duplex I’m thinking of buying.”

The loan officer answers and even sends a cost estimate showing how much down payment you will need, along with a list of anticipated closing costs. You get your quote, hang up and dial another mortgage company. Doesn’t that sound like fun? NOT!

Instead, how about saying: “I’m going to buy a duplex and live in one of the units. The current rent for each unit is $1,500 per month. I want the rental income to cover my mortgage, property taxes and insurance plus a little extra cash each month.”

Now, that’s a plan. Your loan officer will explain your options and what your monthly payments will be. He’ll also help structure a prepayment plan to retire the mortgage sooner, saving you long-term interest.

The loan officer in the second scenario will explain why each option is offered and how it meets your requirements. You may not have known how much your payments would be or whether the rental income could cover your mortgage payments.

You also may not have known your interest rate would be better because you plan to live in the property rather than renting it. By the end of the conversation, you’ll know how mortgages work and how they can be crafted around your exact situation.

Mortgage Shopping Confidence

By communicating your goals along with your rate request you’ll WIN at this process we refer to as the mortgage maze. You’ll also end up comfortable with the loan program you’ve selected. Now THAT is a WIN because you’ll increase your mortgage shopping confidence!

 

Articles, Down Payments, Home Buying, Learning, Purchase Mortgage, Recently Obtained a Mortgage, Refinance Mortgage, Reverse Mortgage, Second Mortgage / HELOC, Shopping Mortgages Now

Paying Off a Home Early: Calculations and Considerations

Should you make a point of paying off a home early? While it would be nice to save on interest and put monthly house payments behind you, early repayment isn’t a one-size-fits-all solution.

About Mortgages

It’s good to get a mortgage. Seriously, without the ability to finance such a large purchase, the real estate market wouldn’t be what it is today and it would instead be controlled by the very well-off.

Banks have been financing real estate since there was real estate to be purchased. Mortgages help fuel the economy in many other areas as well. When people obtain a mortgage to purchase a home, multiple parties benefit.  This can include the appraiser, the real estate agent and even home remodelers. Real estate investors in particular can benefit from the ability to finance investment properties. Mortgage interest is also one of few expenses that are tax deductible.

While the utility of a mortgage is well-defined, it is a debt. So, shouldn’t you strive to pay it off as soon as possible?

Does it make sense to aggressively pay down your mortgage loan? If so, what are the incentives for doing so? Are there any other considerations that need to be made?

If you’re like most homeowners, your monthly mortgage payment is probably your single largest recurring expense. It makes good sense to eliminate that payment and free up cash to be used for other goals such as paying off other debt, saving for college or investing for retirement.

Most mortgage loans today are amortized over 30 years, yet the reality is that few 30-year loans ever actually last that long. Mortgages are refinanced, and homes are sold long before the loans can be paid off.

In the light of this backdrop, let’s take a look at the calculations and considerations of paying a home off early.

Paying Down Pros

If you have ever looked at a mortgage amortization schedule, you understand that far more interest is paid in the early stages of a loan repayment period. If we examine a 30-year loan amount of $300,000 and use a 3.5% rate, we will see that only $472 of the $1,347 monthly payment goes towards principal in the first payment! Nearly twice as much, $875, goes towards interest in this same period.

Mortgage payments are more heavily weighted with interest than principal early on, because the interest rate is applied to the outstanding loan balance. As the mortgage is gradually paid down, the interest rate is applied to an increasingly lower loan amount.

As a result, after five years of making the mortgage payment, the outstanding loan balance has decreased by less than $40,000.  This is despite the fact that more than $80,000 in mortgage payments have been made over that same time period. At the end of five years, the loan balance is $262,234. The interest is an expense and goes to the lender, not toward the homeowner’s equity.

That’s why many borrowers make extra payments on their loans in order to send more to principal sooner and save on interest. Today, there are no prepayment penalties whatsoever on any government-backed or conventional loans. This means that anyone can pay against a mortgage at any time they choose. With an accelerated payoff, homeowner equity is increased. By how much?

Let’s take that same $1,437 payment. By making just one extra payment per year, after five years the loan balance drops to $254,245 instead of $262,234. The one extra payment made each year goes directly toward the loan balance. After 10 years of making one extra payment? The loan balance is $206,611 vs. $224,114. This math can be applied to any property type, whether it be a primary residence, a second home or an investment property. Mortgage amortization works the very same way in all cases.

Paying Down Cons

If paying down a mortgage makes sense, are there ever times when it may not be the best option?

Yes, there are a couple. With rates as low as they have been recently, you could be leveraging your borrowing costs nearly as low as they can go. When a 15-year fixed rate is in the 2.50% range or so, that’s cheap. Instead of paying down your low-interest mortgage, take a look at how your retirement fund is coming along. Yes, getting rid of your mortgage before you retire is the single biggest thing you can do, but can you have the best of both worlds?

When you retire after having devoted your extra funds to paying down the mortgage, without a healthy retirement fund you’ll be “house rich and cash poor.” You may instead be able to find investments now that will provide a higher rate of return over time, or you may want to purchase a rental property with those extra funds.

Feel Good Time

Finally, let’s admit that no longer having a mortgage and still having a safe, secure roof over your head could bring a lot of self-satisfaction. It simply feels good not to have a mortgage payment every month.- and as humans we often makes decisions based on what feels good, not what is mathematically sound.

Also, there’s no mortgage balance to pass along to your heirs when there is no mortgage. It’s an emotional advantage that other retirees may not have as they use their retirement and social security income to make the mortgage payments each month.

Finally, weighing the pros and cons of paying down a mortgage should warrant a meeting with your financial planner or wealth manager. The mortgage is typically your biggest expense and accounts for a large portion of your income. If you are considering paying down your mortgage quickly, take some time out and review your options with someone who can help you see the bigger picture and the long-term benefits and costs of being mortgage free.

Mortgage PITI
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PITI – What Does That Mean?

PITI (pronounced “pity”) is a widely used mortgage acronym. Here is a breakdown of the term and how it relates to your loan approval. Read on!

Mortgage companies have their fair share of acronyms and PITI is not only one of them, but perhaps the most widely used. It is a critical piece of the loan approval process, as lenders use it to determine affordability.

So, what is PITI?

PITI stands for principal, interest, taxes and insurance. Here is a breakdown of the term and how it relates to your loan approval:

Principal

When you make a monthly payment, there is a portion allotted to each of the four elements of PITI. One portion is applied to the outstanding balance of your loan. This is your principal balance. In the early stages of a mortgage loan, more of the payment goes toward interest and less goes toward principal. Over time, as the loan is paid down, more money goes to the principal balance and less goes to interest.

Interest

Lenders are in business to lend money at a profit. This profit is the interest paid by the borrower. With a fixed rate loan, the mortgage payment stays the same, but the portion of each payment allotted to interest and principal will vary each month. With an adjustable rate loan, the amount of interest can vary based upon the newly adjusted rate.

Taxes

This is the amount you’re charged to cover your annual or semi-annual property tax bill. For those who escrow or impound their taxes, instead of paying property taxes directly to the local tax assessment office, the taxes are included with the monthly mortgage payment and the lender pays them when due.

Insurance

This is the sum required to pay for your homeowners insurance policy when it’s time to renew. Each month you will pay 1/12th of the annual insurance premium to your lender, who will then pay the premium amount when the policy comes up for renewal. In certain areas, a property might be designated as being in a Flood Zone, in which case an additional policy will be required. In a condo, the only insurance you’ll pay for is a “walls in” policy which protects the property you own: the square footage inside your unit.

More Letters

HOA

HOA stands for Homeowners’ Association, and is usually found in condominium housing as well as in Planned Unit Developments or PUDs. Each resident is charged a fee for enforcing the various covenants, conditions and restrictions of the building or community.

If you don’t live in a condo or a PUD you most likely won’t be a member of an HOA, but if you are, this amount is not optional. It is a requirement for living in your home. The collective funds are applied to the upkeep of common areas, as well as to other requirements.

PITI in Action

Let’s look at a scenario to illustrate how lenders use PITI in the approval process. A couple has found a home for sale at $300,000 and wants to borrow $200,000. Using a 30-year fixed rate of 4.00%, the principal and interest payment is $954.

Annual property taxes on the home they want to buy are $3,000 per year, or $250 per month. After shopping around for an insurance policy, they’ve found what they need at an annual premium of $1,500 per year, or $125 per month. The PITI in this example is $954+$250+$125=$1,329.

When lenders evaluate affordability, they compare the borrower’s monthly debt with his or her gross monthly income. In this example, the borrowers make $5,000 per month combined. If you divide the PITI of $1,329 by $5,000 the result is .27, or simply “27.” Most loan programs like to see this ratio of debt-to-income somewhere below 33.

Now, the lenders will add up other monthly credit obligations such as automobile or student loans. If there is an auto loan of $500 per month, and student loans adding up to $300 per month, the lender adds these amounts to the PITI of $1,329, arriving at $2,129. Dividing this amount by $5,000 gives a ratio of 43, which is acceptable for most loan programs.

Don’t fall into this trap!

When first time buyers begin their research, and they run some numbers on a mortgage calculator they find online, they may not be aware that lenders will use not just the principal and interest payment the calculator provides, but also the estimated monthly payments for taxes, insurance and any HOA dues. Online mortgage calculators typically don’t provide space to enter that information.

Most loan programs in today’s marketplace will require monthly payments for taxes and insurance if the mortgage is greater than 80 percent of the value of the property. For those who put down 20 percent, or who otherwise configure a loan where the first mortgage is at or below 80 percent of the value, making monthly payments for taxes and insurance is optional, it is not a requirement. Even in such cases, the lender will calculate the entire PITI amount when qualifying a borrower.

Articles, Company News, Condo, Down Payments, Home Buying, Learning, Primary Home, Purchase Mortgage, Shopping Mortgages Now, Single Family Home

Buying Your First Home: 5 Steps to Success

If you’re considering buying a home but you aren’t quite sure where to start, you’re not alone. Our step-by-step guide can walk you through the process with ease.

 

For those who are getting tired of renting and have decided it might very well be time to buy, it’s important to understand the buying process, what type of property is best for you and the type of financing you’ll need. Here is a step-by-step program for those who see a first home purchase in their future.

Step 1: Think it through

It’s important, early on, to understand the pros and cons of buying versus renting. It’s not always in one’s best interest to buy a home instead of renting. While there is certainly time to change one’s mind during the home buying process, it helps to understand the benefits and downfalls of owning a home before applying for a mortgage.

Pros of home ownership

  • Each month, as you make a mortgage payment, you’re contributing to your own financial stability in the form of increased equity in the property. Over time, your equity grows and it belongs to you, not to your landlord.
  • Mortgage interest is tax deductible, whereas rent payments are not. Property taxes may also be tax deductible for those who itemize.
  • The property belongs to you and you can have pets, paint the walls whatever color you like, and create your own kitchen.
  • When financing with a fixed-rate loan, your monthly payment will never change.
  • You won’t have a landlord who can increase your rent each year.

Cons of home ownership

  • You’re not as mobile as you once were. As a renter, you had the option to change your scenery and move across town, or to another city each time your lease was up for renewal.
  • When the heater broke down in your apartment, you called your landlord. When the heater breaks down in your own home, you’re the landlord.
  • You no longer have the free access to a fitness center, pool or other amenities offered by your apartment building.
  • If you make a poor decision when selecting an apartment, you can always move when your lease expires. If you make a poor decision when buying a home, the consequences will be much more severe – negatively impacting your finances significantly.

Step 2: Credit and lifestyle check

At the very beginning of this process, it’s important to check your credit report. When consumers pull their own credit report, they should be looking for errors or mistakes that might be incorrectly lowering credit scores.

Fortunately, it’s no secret that credit files can be rife with errors. Similar names can pop up on one another’s reports, and old accounts can show as open and in collection when they’ve actually been paid in full.

Consumers should regularly check their credit regardless of whether or not they’re looking to purchase a home, and free credit reports can be obtained annually at a website supported by the three main credit repositories: Experian, Equifax and TransUnion. The site is www.annualcreditreport.com.

Consider your lifestyle to help focus in on a neighborhood and property type that will best suit your needs. Do you want to live the high-rise condo life downtown, or does a neighborhood and your own lawn sound better? Are school districts a priority for you? What about your commute to work?

These and other questions should be settled before you seriously begin your home search.

Step 3: Understand your finances

How much are you comfortable paying each month? Remember that when you begin the mortgage process, how much you qualify for and what you’re comfortable paying can be two very different amounts. It pays to get prequalified early on, but stay in your comfort zone and don’t get carried away taking on a payment that is too high for your own good.

Use MortgageCS to get a feel for current mortgage rates and for the program that best matches your available down payment amount. By the time you close on a home, rates will more than likely be different than they are now, but you need to familiarize yourself with credit markets and monthly payments.

As always, keep your personal information safe during this early stage. Uninvited pressure from a loan officer or multiple credit pulls over time can create unnecessary issues and stress. Using MortgageCS to ensure your personal information remains protected is a great way to understand your options and find a trusted source for your financing without the hassle.

Don’t forget about homeowners insurance. Contact your insurance agent and get a quote on coverage for your new home. Your lender will require a minimum amount of coverage required, but speak with your agent about any additional coverage options you might want to add to your policy.

Step 4: Get organized

Begin gathering your financial documents. Once you’ve selected the loan officer you’re going to work with, they will provide a list of required items. This list will include bank and investment account statements, and income tax returns might be required along with W2 forms and paycheck stubs. You’ll need to update these items once you get closer to a loan approval, but gathering them early lets you know if there is anything missing that you’ll need to track down.

Step 5: Find the property!

Looking at many different properties can be exciting and frustrating at the same time. Once you have an accepted sales contract on a property, follow the requests of your real estate agent, loan officer and loan processor when additional information or action is required. Most sales contracts conclude in 45 days or less. Don’t assume anything during this critical time and be sure to keep the communications line up and working!

How fast?

You can follow these 5 steps in 5 months, or in almost any time frame, but giving yourself enough time to complete each step will help create a stress-free experience.

Ask anyone who has been through the home buying process before and they’ll tell you that spending more time shopping for homes with a preapproval letter is far better than chasing down loan documentation at the last minute. So plan ahead and make the process as easy as it can be!