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More Building, More Questions, More Money: The Basics on HOME Mortgages

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When it comes to purchasing or building your dream home, there are many variables that one must consider before taking the plunge.

couple reviewing mortgage documentsSize, layout, curb appeal, and location are all important factors. However, the most important is usually cost. Without home financing options there would be very few homeowners, as only a small handful of people can purchase a home out of pocket. Mortgages are stressful, confusing, and widely available from all financial lenders. How in the world does one narrow down the options?

It is important to find a lender with payment options and interest rates most favorable to your financial situation. Know from the start that applying for a mortgage takes time and requires some shopping around. Prepare to approach numerous lenders to seek out the best mortgage available to you. It may also be beneficial to consult a financial advisor; they often work closely with a number of lenders and can direct you toward your best options.

Fixed Rate Mortgages

A fixed rate mortgage is the choice of many homeowners. It guarantees a set interest rate for a period of time, typically ranging from three to five years, as well as the same monthly payment over that time. While fixed rate mortgages are convenient and offer stability in a fluctuating market, they may cost you more in the end, as the lowest fixed interest rates are often higher than other mortgage types.

If interest rates are fairly stable, it may be in your best interest to take a fixed rate mortgage with a shorter term to utilize lower rates at the start of each term. This may save you a bit more money while still offering stability.

Adjustable Rate Mortgages

An adjustable rate mortgage does exactly as it says – it adjusts your payments over time as your interest rates change. Typically an ARM will have a fixed low rate for the initial year. After that first year, the rate is annually adjusted to reflect the current interest rate; if the rate goes up or down, so does your payment. An ARM is great when rates decrease and it costs you less. However the rate does go up at times, possibly costing you quite a bit more at the moment and also in the long run.

Balloon Mortgages

A balloon mortgage is one that requires regular payment on a typical loan schedule. At the end of the term, usually five to seven years, the full balance comes due and the final payment is called the "balloon payment." With a balloon mortgage there is a low upfront interest rate that is adjusted only once after the initial rate (rather than annually). This is most beneficial for frequent movers. They can often time the sale of their home with the end of their mortgage, thus using the proceeds to make the balloon payment. Refinancing can be an option but is complicated, keeping few people from choosing balloon mortgages unless beneficial to their lifestyle.

HUD and the FHA

The Department of Housing and Urban Development runs numerous programs encouraging affordable housing. They are especially prominent in helping economically struggling people buy homes. This is executed through the Federal Housing Administration. Under HUD, the Federal Housing Administration provides lenders with mortgage insurance, protecting them from loss if a homeowner defaults on their loan. This often persuades lenders to make loans that would have otherwise been deemed too risky.

These programs are ideal for qualified low and middle-income families who wish to purchase a home but are unable to save for a down payment. There are rules that must be adhered to by both the lender and the borrower resulting in a positive home buying experience for all parties.

Construction Loans

Differing from a standard mortgage, construction loans are not held for a long time; they typically have terms of 12-18 months. They are primarily used to pay for the construction of a new home, with many lenders requiring ownership of the land being built upon prior to applying for the loan. Some lenders may be willing to roll the purchase into the construction loan for an additional fee.

Construction loans have strict prerequisites for application approval, as well as stringent guidelines to follow throughout the term of the loan.

  • The borrower must have an accurate and finite budget to submit to the lender. Many lenders will not be gracious about giving you more money after your loan is approved.
  • Be certain to discuss with your contractor every possible cost. Request more than one quote for every expense, and submit the highest quote to the lender. If you go with the lowest quote after submitting the highest, the difference will be buffer money in case of unforeseen costs.
  • The lender will require copies of home plans, permits, and surveys. Additionally they will send an appraiser to determine if the loan should be approved for the budget and plan submitted.
  • In order to approve the loan, the borrower and contractor will need to create a "draw" (dispersal) schedule based on the construction stages. With every draw there must be notification a few days prior and the lender sends someone to verify the work was done. This requires a service fee, so it is important to schedule your draws carefully. It is advisable to have some money set aside in case of set backs or delays.
  • Interest will be paid on the money drawn. The full balance of the loan will be due upon completion of construction. When construction is completed, you may have the opportunity to convert your construction loan to a mortgage. This construction to permanent financing should be discussed during the application process to ensure this option's availability.

Construction loans are manageable if handled correctly. It is pertinent to be involved with the building process and communicate effectively with your contractor to keep on schedule and use the loan money efficiently. Keep in mind that unspent loan money can be used to pay back the loan.

After securing a mortgage of any kind, it may become necessary to refinance in the future. Refinancing is securing a second loan in order to replace the first. It is an option best considered only if you stand to save a substantial amount of money in doing so. Discuss refinancing with your lender or financial advisor to evaluate your situation. Mortgages are an overwhelming but often necessary part of the home owning process. Remember to ask questions, take notes, and seek as much advice as possible before making your financing decision. Then watch as your lender helps your dream home become a reality.

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