A home loan, or mortgage loan, is money borrowed from a bank or other financial lending institution for the purpose of buying a house or property. Home loans allow a broader group of people, also known as a borrower, the opportunity to own real estate by making monthly payments over a designated period A home loan stipulates that the owner of the property must sign over the title to the lender for the length of the mortgage, to be transferred back once the terms have been met and the mortgage is paid off.
What does a home loan entail?
As with other types of loan, the nature and terms of a mortgage are defined by a number of varying factors. Among these factors, the interest rate is often priority for prospective borrowers when shopping around for a home loan. Generally, consumers will seek out the lowest interest rate available to them, though this may dissuade borrowers from other conditions that might not benefit the them in the long run. A variable rather than fixed interest rate, for example, may appear lower initially so as to attract borrowers, but it can and will increase at certain pre-defined periods or depending on certain pre-defined conditions.
Generally, consumers will seek out the lowest interest rate available to them, though this may betray certain other conditions that may not benefit the consumer in the long run.
There is also the term of the mortgage, or number of years after which the loan must be repaid. Some mortgages will be amortized, meaning that the loan will be paid off in regular installments; others may have no amortization, or require repayment in full only once a certain date has been reached. This means that the payment amount is not always set in stone and can vary depending on both the lender and the borrower: people may choose to alter the amount paid so as to suit their current financial conditions, though in the knowledge that this alteration will affect the amount paid in the future and that the amount in full is to be paid off at as certain date.
Prepayment is a factor that many might not consider when studying home loans, yet it is common. While it would undoubtedly help a borrower to own the kind of financial capital that would allow for the initial settling of the portion of a mortgage, some banks may in fact limit or restrict it. Otherwise, a penalty may be imposed upon those who are able to pay off a mortgage or portion of a mortgage before the agreed date.
Which kind of home loan is right for me?
Home loans are can be generally divided into several different types:
- Fixed-rate Mortgage
- Adjustable-rate Mortgage
- Interest-only Mortgage
- Balloon Mortgage
- FHA Loan
- VA Loan
- Reverse Mortgage
Of these, the initial two types, fixed-rate and adjustable-rate, are by far the most common and many sites often compare the pros and cons between the two . Of course, which kind of loan to pick is dependent upon the situation and personal income of the prospective borrower.
Fixed-rate mortgages are the most common in the U.S. and, being self-explanatory, are defined by the fact that the interest rate remains fixed for the entire duration of the loan. This duration can typically be around 30 years. There are variations to this kind of loan, such as an annuity repayment scheme where periodic payment remains the same throughout, as opposed to a linear repayment scheme, where the payment will slowly decrease over the course of the loan’s life.
“Of course, which kind of loan to pick is dependent upon the situation and personal income of the prospective borrower.”
What are the advantages/disadvantages?
The advantage of a fixed-rate mortgage is, again, that payments will remain as they were initially set throughout, even if interest rates increase. This can be great for family budgeting. On the other hand, borrowers are essentially locked into the terms of the loan and its rate, meaning that they cannot take advantage if interest rates fall. It also means that, if conditions change and a borrower wishes to get out of the mortgage, a hefty penalty must be paid.
An adjustable-rate mortgage (also known as floating-rate or variable-rate mortgage) is different, in that the interest rate will be generally frozen for a period of time before periodically changing, depending on a major financial index such as the weekly Treasury bill yield. This of course transfers some of the risk of the interest rate to the borrower’s shoulders rather than just those of the lender, though the borrower can expect to enjoy a lower initial rate and lower initial payments. There may also be an annual interest limit or cap applied to the loan.
This all makes adjustable-rate mortgages much more appealing in that it makes the home more affordable initially, though borrowers are then exposed to higher payments and the shock of escalating interest rates later on.
Of the other types listed above, an interest-only mortgage requires buyers to pay only the interest on the loan, with the outstanding balance being due at a fixed date. This can be compared to balloon mortgages, where a low initial rate is offered and the entire balance to be paid off after this initial period. There are also needs-based home loans such as the FHA (Federal Housing Administration) loan which provides those who may not usually qualify for a mortgage with one low down payment, though the size of the loan may be limited. Reverse mortgages allow seniors to convert equity in their homes into cash, whereas VA (Veterans Affairs) loans are provided for eligible veterans and active duty personnel.