Wednesday, September 22, 2010

A brief description about Mortgages

The American dream of home ownership is becoming a nightmare to the middle class. It absolutely amazes me that the general public still has the mind set that because they are "American" and live in the United States that they are some how protected from fraud and theft. People sign mortgage documents without reading what they are signing.

When you purchase a mortgage there are a few different options to keep in mind. First is the Government backed loans referred to as Ginnie Mae loan products. These are VA and FHA loans. What this means is the government issue insurance to back the loan. These loans were designed to give the people of this country an opportunity to purchase a home with a fixed rate over a manageable period of time like 30 years.

A VA loan is a loan product specifically designed for our Veterans. If you served in our countries Navy, Air Force, Army or Marines Corps you are entitled to a zero down loan. The cost of this loan is a little more expensive than a traditional loan and most of the cost can either be mortgaged or paid by the seller. The mortgage insurance for this loan is paid by the government. The benefits of this loan are that the mortgage insurance is paid for you and you can purchase with no money down. You will need to show some money however to qualify for the loan.

An FHA loan is 3 1/2% down with mortgage insurance. There are several FHA loan products. One of the best loan products that is frequently overlooked is called a 203k. This loan allows the borrowers to purchase a home that may need work. Say you have your eye on a house that needs a new roof or replacement windows. You can purchase the home for whatever price you negotiate with the seller then add the cost of repair to the loan. You will have to put 3 1/2% down on the total amount that you will finance. The great thing about this is the house transfers title and then you can have the work done and the money is in an escrow account to pay the bill when the work is finished. This loan isn't cheap but you usually get a house for a better price when it needs work so it all evens out at the end.

There are traditional loans called Freddie Mac and Fannie Mae. These generally start at 5% down. Some of these will stop charging mortgage insurance at 15% loan to value. Meaning if your home is worth $100,000 and your mortgage is $85,000 your $15,000 in equity is 15% loan to value. Private mortgage insurance prices vary depending on how much you have in equity and what your credit score is.

When I refer to Ginnie Mae, Freddie Mac, and Fannie Mae these are the names of the products that resell on the secondary mortgage market.These are called Mortgage backed securities. People invest in these and until recently it was a pretty good investment. By making this an investment product it frees the money up to lend more. What has happened is it kind of got out of whack. This was a good thing and it helped get our country out of the 1930 depression. When people lose jobs and were unable to pay their mortgages it created a financial tsunami. When people default on their loan these securities go down in value. If there aren't investors in these securites there is no money. The Federal Government has been investing in these and of course selling these securites.

There are several types of loan products that you can get in all three groups. The best and safest is the fixed rate. This can be for any amount of time. Generally people do 30 years. If you make one extra payment a year you will save thousands of dollars and payoff your mortgage in 20 years. There is a loan product that is kind of hard to find it is called a biweekly mortgage. It is set up on the extra payment principle. You take whatever the 30 year mortgage payment is and divide in half and pay that every two weeks. This will result in an extra payment a year which will pay down your loan in 20 years. You can get a 20, 15,10 year amortized loan as well.

The adjustable rate loan (ARM) is a little more tricky. This is where you really need to read the fine print. If you see an ARM described as 3/2 that means every 3 years it can adjust up or down by 2%. These loans are based on different indexes. Most are based on Treasury securities rates. The lender adds a margin to whatever index they are basing their ARM on. Basically the cost of money with a profit added in.

Always make sure there is a cap on the ARM. There are different kinds of Caps. There is a cap of the life of the loan. Meaning it will not ever adjust over say 7.5%. There is a cap on the amount you can adjust on in every adjustable cycle. Like 5 years or 3 years.

Third Federal has an interesting ARM. They are showing a 5/1 and a 3/1. This means the rate is locked for the first 5 or 3 year cycle. Then it adjusts every year up or down by 2%. They state that you can re lock your rate anytime for the cost of $495 The cap on the life of this loan is 5%. This is a great product if you are planning to move soon or want to take advantage of the lower rate and make extra principle payments. In general adjustable rate loans are risky especially when we are at the bottom of the market. You know it can only go up. The savings is usually 1%.

Another loan is the interest only loan. This is one that I think the banks should start to take another look at. When you have people in a recession like we are in. If we can modify their present loans to interest only for a set time like 5 years then we can keep people in their homes. If after 5 years they haven't been able to correct their situation, they probably won't and should look for less expensive living situations. An interest only loan can cut the cost of the payment in half.

There are interest only loans out there, but the problem is most of these products are put out by mortgage companies. Mortgage companies are in the sales business. Their entire goal is just to sell mortgage loan products. After a mortgagee purchases one of their products Mortgage companies generally sell the loans.The servicing of these loans go to several companies that get paid a fee to collect the money on the debt instrument. The problem with that is the companies that do the servicing aren't that great. I have heard horror stories about the servicing company double charging, or foreclosing on a home because money that was withdrawn from an account went to the old servicer and didn't get credited to the new servicer. By the time a borrower can get the situation repaired there is usally all sorts of penalties and fees that you have to try to get waived. Most of these companies are incredibly hard to work with.

In short get a fixed rate loan try to make principle payments or one extra payment a year if you can. If you do a ARM be careful understand it completely before doing it. If you find you are in some sort of hardship call your bank before you get behind and try to work something out. As you can tell I'm not a fan of mortgage company loans because your loan becomes a piece of paper with no face behind it. If you work with a bank that you use on a regular basis hopefully they will help you with some sort of modification. Most important make sure wherever you get a loan from make sure they service their loans. Third Federal does not sell their loans and will always be the servicer. They do not have FHA or VA loans and tend to prefer at least 15% down. Most banks keep the servicing of the loan as another tool for the bank to earn income. Always ask about the servicing to avoid the nightmare to can result from ending up with one of the bad companiesout there.

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