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Financing your Home:
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Advantages of Homeownership |
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Equity
Owning a home builds equity; renting does not. After paying rent for 30 years, you would have a rather large box full of rent receipts. After paying a mortgage for 30 years, you would own the home "free and clear", and owe no more monthly payments due, except taxes and maintenance.
Tax Advantages
There are some significant tax advantages associated with home ownership such as the ability to deduct property taxes and interest on the mortgage. You should contact your tax advisor for more details on tax deductibility.
Buy now VS Buy Later |
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Many times buyer's debate on buying now or waiting to save more money in order to get a bigger home later. History has shown that those who wait will end up paying more money to purchase less of a home. The extra money that you are working toward will disappear with the increase in housing costs. There is no better time to buy than right now. Properties across the country are appreciating at a faster pace than most savings accounts.
There is no bubble waiting to burst in the Orlando area, property values appreciated 16% in 2004 and 45% in 2005. Even with a slower 2006 market, there is still appreciation. You figure it out. If the property was $300,000 last year, even with a mere 10% increase it is $330,000 this year, and next year it will climb closer to the $400,000 mark. The average home now sells for $276,000. The longer you wait, the bigger chance you will have of not qualifying for anything at all. Even when the hot market slows down, the home costs do not go lower, they level off and climb up a bit slower.
As the home supply dwindles and more rental apartments become condominium conversions, the costs for renting goes up. A nice single family home will rent for about $1500 a month x 12 = $18,000 that you could have put into home ownership with tax and mortgage interest tax write-off. Grab a calculator and check for yourself.
Step #1 for Financing a Home |
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Get pre-approved for financing.
This is the absolute first step; figure out the financing and get approved for your mortgage. If your lender tells you not to worry, but go find a house first, unless you have deep pockets and can afford any payment...go find another lender. Reputable lenders will gladly start your loan process.
Consider this scenario: A home seller gets two similar offers. One offer is accompanied by a letter that supports that the buyer has applied for financing and the application information has been verified, and approved. The other offer is waiting to "find the right house" first before they apply... which offer do you think the seller will consider??
Pre-qualified vs. Pre-approved: |
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Pre-qualified only means that based on what you told the lender you could probably qualify for the loan...a weak statement in today's fast paced Real Estate market. Seller's want to see "ready, willing and able" qualified buyers with the documentation to prove it.
Pre-approved means that you have actually made a true loan application, had your credit checked, income and debts verified and paid an appraisal fee deposit to have your loan processed so that you reach an approved status. Some sellers only want "approved" buyers submitting offers and will not even consider anything less. They know that serious buyers start by applying for financing. Pre-approved borrowers are basically as good as cash offers.
How much can I afford? |
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Sometimes what you want, what payments you are comfortable with and want you qualify for, may be three different things...another reason to figure out the financing first.
What you will qualify for will depend most on your credit score combined with your income to debt qualifying ratio, length and type of loan, amount borrowed, down payment available, job stability and secondary assets...in addition to the documentation you are willing to provide.
Qualifying ratios |
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A few years ago lenders wanted to see ratio's of 28/36 ; 28 percent of their total income on their monthly mortgage payment, and 36 percent of their total income for mortgage expenses and other debts such as credit cards and car loans. Loan requirements have gotten more liberal with some borrowers having a 60% back end ratio and even some "stated income" loans with back end ratios of 55%.
Many lenders have added flexibility to the mortgage lending process and will give you much more latitude when you apply for a mortgage. These lenders will finance a home mortgage with as little as 3 to 5 percent down and may pay less attention to your ratios, weighing instead upon the relationship between your income, assets, credit, current housing payment, and the home you are buying.
It only makes sense that a mortgage lender would like to know how you make the money you will use to pay back the loan. Of course, simply knowing your income won't give mortgage lenders enough information to know how likely you are to be able to pay back your mortgage loan, so lenders will ask you many questions about your payment history, debts, income and goals in order to get a true picture of your financing capabilities.
Based on your list of assets, the lender will weigh your debt; how much do you owe and to whom? Is your debt minimal or substantial? A potential lender will try to determine how much additional debt, in the form of a mortgage payment you may be able to afford.
Credit, Income & Assets |
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Lenders will also take a good look at how you have handled credit in the past-and how you are handling it now. You must be able to demonstrate that you have the ability and willingness to repay obligations responsibly. Lenders will be particularly interested in the preceding 12 to 24 months of your credit history.
Lenders will require a credit report to examine the condition of your credit. This credit information is collected by three major agencies; Equifax, Experian and Transunion. Each agency uses different software, so scores will vary and lender will look at more than one score.
Credit scores range from 350 to 830 and the higher the score, the better, as lenders view a higher score as less risky and will offer better terms. A credit report will provide an historical picture of your credit history; debts you owe, length of credit, timely payments, types of credit, and new credit, to determine if and how many times you have been delinquent in making payments on previous debts.
Even when a credit report is generally positive, many lenders require written explanations of any negative comments that may appear. Sometimes credit reports are inaccurate and doing your loan early will give you time to correct any mistakes on the report.
Interest Rates and Discount points |
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Interest rates
What interest rate you can get just depends upon many factors as individual as your fingerprint...they are no two borrowers alike, so do not compare your rate with what your friend got. The most important #1 ingredient is your credit score . That combined with your income to debt ratio, length and type of loan, amount borrowed, down payment available, job stability, secondary assets and what kind of documentation you are willing to provide...the less you provide, usually the higher the interest rate. With a 700+ credit score, there is typically not a premium for not verifying income and assets.
Discount Points
Discount points are not a "discount" as you think of a reduction...but they are typically tax deductible. It is paying some up-front interest in order to get a lower interest rate on your loan. This reduction may be beneficial to you if you have the cash to pay more points up front and want to lower the interest rate you will be pay year after year, and can be beneficial if you are planning on staying in the home for a long time.
Lenders quote points as a percentage of the mortgage amount. Usually you are required to pay points at the time you close on your home purchase. If a lender offers a loan that has one point, it simply means that you must pay 1 percent of the loan amount as points. On a $200,000 loan, that would be an up-front charge of $2,000.
If you are considering paying points to lower the interest rate on your mortgage, you may want to make sure you will live in the home long enough to take advantage of the savings. Your lender can estimate the break-even point for you.
What types of loans are available? |
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Conventional Loans
A conventional loan is a fixed-rate, adjustable-rate, balloon, or buy down mortgage that is not a government-insured loan.
Fixed Rate
Traditional fixed rate loans are available with terms of 10, 15, 20, 25, 30 and now even 40-year loans.
ARM
Adjustable rate mortgages gives the borrower the stability of a fixed loan for a set period of time and the flexibility to adjust with the market rate in the future, based on one of several pre-selected indexes. Flexible Adjustable rates can be fixed for 1,3,6 months or 2,3,5,7, or 10 years. These are good for buyers that will only be in the home a short time, or expect greater income later on.
100% Financing Programs
Mortgage loans of this type require no down payment, allowing the borrower more flexibility in purchasing a home based on their established credit rating (must be good) and verifiable ability to repay.
Stated Income Programs
These are designed for people who cannot verify their income, with certain programs available up to 100% financing. Ideal for self-employed borrowers, commissioned borrowers, with good credit rating or borrowers who simply choose not to document their information.
No Documentation Program
This loan requires no employment, no income, or no assets to be stated on the application. No information is verified beyond the borrower's credit profile and the value of the property. It is possible to do a true "no doc" program with as little as 5% down with a minimum credit score of 620 (other factors apply).
Jumbo Loans
Conventional loans over a certain threshold ($359,650 as of 1/1/2005) are jumbo loans or non-conforming loans. These loans usually have higher interest rates than conforming mortgages because they are never packaged and sold on the secondary market and are kept as portfolio loans.
FHA Loans
FHA loans are loans insured by the Department of Housing and Urban Development (HUD). They are available to all qualified buyers, but are subject to a maximum amount that can be borrowed which varies from county to county.. The loans offer low down payment options and flexibility, but charge for a mortgage insurance premium (MIP). FHA is becoming obsolete as there are superior alternatives.
VA Loans
VA loans are loans insured by the Department of Veterans Affairs. No down payment is required, but buyers have to be qualified veterans of military service, or a widowed spouse. There is a minimum down payment required if the loan amount exceeds about $275,000.
Special Need Loans
There are special need loans available to individuals who have credit problems or whose credit is less than acceptable for some reason. Because of the risks they present to lenders, these loans typically may have higher interest rates and require higher-than-normal down payments. Although these loans are not ideal, they may enable people to choose buying as an alternative to renting. The most common of special needs are sub-prime loans for those with less than perfect credit. Also known as BC paper.
Custom Mortgage Programs
There are also custom mortgage programs that can help meet the specific needs of individual buyers. Some may be portfolio loans, private lenders, or simply a creative loan.
Biweekly Mortgages
When you take out a biweekly mortgage, you make level loan payments-typically half of a regular 30-year mortgage payment-every two weeks instead of every month. By paying 26 payments a year, you effectively make 13 monthly payments rather than 12. The extra payment is deducted from the principal. Making mortgage payments every two weeks may allow you to pay off the mortgage faster.
Piggyback Loans
Piggyback loans involve borrowing a lower amount on the first mortgage and then supplementing it with a home equity line of credit. This strategy can enable borrowers to avoid paying private mortgage insurance (PMI. It may also enable the borrower to pay a lower interest rate, because the first mortgage is a "conforming" loan.
Interest Only Mortgages
With an interest-only mortgage, monthly payments are lowered for a period of time because the buyer is repaying only the interest and not the principal. This strategy could be used during times of high interest rates. The borrower may refinance the loan at current interest rates (if they are lower) or begin making payments of principal and interest after a specific period of time. Interest only loans are an alternative form of financing that allows the purchaser to qualify for a more expensive home with a smaller monthly payment.
Negative Amortization Loans
This is a deferred-interest loan which is very powerful, but often misunderstood because of its many options. Basically, the lender allows the borrower to make monthly payments that are less than the accruing interest. Therefore if the borrower chooses to make the minimum monthly payment, the loan balance will increase by the amount of interest not paid on the loan.
The power of this loan lies in the borrower's ability to choose between making the full loan payment, or the minimum payment or any amount in between. If a borrowers income varies throughout the year (due to commissions, bonuses, etc,) the borrower can make a lower payment during the "lean times" and make a higher payment when funds are readily available.
The Benefits of this type of loan is a very low payment that allows you more purchasing power, the downside is that you may end up owing more than you borrowed. Deferred interest rates are ideal for investors, borrowers with high credit card debt, borrowers who will be making more money in subsequent years and for people in rapidly appreciating real estate markets.
Foreign National Program
A Foreign National is defined as a citizen of a foreign country who can legally enter the United States and is buying a primary or secondary residence. The minimum down payment is 20% and it is typically easier for a foreigner to obtain a mortgage than it is for a US citizen. Some 30% down loans only require the borrower to provide a copy of passport, without verifying credit, income, assets, employment or other information.
Finding a lender |
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Bank, Credit Union or Mortgage Broker?
Banks:
Banks may be a good choice if you are a clean conforming borrower. Usually they do not have a large variety of loan programs and typically will not "shop" your loan to find the lowest rate.
Credit Unions:
Sometimes offer excellent terms for the members.
Mortgage Brokers:
Have the widest selection of loan programs and will shop the loan in order to get the lowest pricing. It does not cost more to use a mortgage broker.
Choosing a lender |
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There are certain criteria you should consider when looking for a mortgage lender. Choose someone who is within the state that you are buying a home in. Lending laws vary from state to state and you need someone who knows Florida requirements.
Look for someone with expertise and experience in the home financing market. This is a time for an experienced professionals and not someone who got a license yesterday. If you are getting a quote much lower than the rest, the final figures will probably change before closing, and you may be stuck paying much more than you could have. Good attorneys cost more and good mortgage lenders do not work for free. Reputable companies do not bait and switch.
Ask for referrals and look for a professional who will take the time to answer your questions and help find the mortgage-financing package that meets your needs. There is more to a loan than just pricing. A good loan officer will shop the loan and place it where you can get the best terms. Knowing how to "package" your borrowing attributes will make you loan sail through smoothly and not have a dozen of conditions that need to be satisfied on the day of closing.
Last, but most important...
STAY OFF THE INTERNET! |
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There are too many lurkers waiting to take advantage of homebuyers that want to believe somewhere there is that miracle lower interest rate.
Anyone can give you an estimate (only a guess) to make you feel good, tell you everything you want to hear and then deliver a product different from what you bargained for...or worse not even submit the loan. They could be thousands of miles away operating on their cell phone equipped with caller ID...if you don't like the final cost, they simply will not take your calls anymore. You are stuck. Dozens of internet "unknowns" may pull your credit...yes, even without your permission. If one mortgage broker shops your loan around to 20 investors, each investor will pull the credit report, thus having a potentially catastrophic effect on your credit score.
Last year we had a client who with one inquiry had 63 investors pull his credit....as a result his credit score was lowered forcing him into a higher interest rate category. Until states tighten up and enforce regulations it is truly a gamble with your hard earned money. It is your money, so be smart and hire a professional.
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Direct: 407-539-1053
