ACCC explains what every consumer should know when it comes to mortgage terms
Boston, MA – September 20, 2017
Consumers looking to purchase a home should be very familiar with the different mortgage options available and the common terms used by lenders. Taking out a mortgage loan is a big decision, and if the consumer doesn’t pay it back on time, the lender can foreclose on the home and sell it to pay off the loan.
To assist with the home buying process, national nonprofit American Consumer Credit Counseling has compiled a list to help consumers better understand common mortgage and home purchasing terms.
“The home buying process can be confusing, especially when you have to deal with the technical terminology used by lenders,” said Steve Trumble, President, and CEO of American Consumer Credit Counseling, based in Newton, MA. “Purchasing a home is usually the single biggest investment consumers will undertake. It is essential that anyone looking to buy a home understands all the details and terms associated with mortgages.”
According to a survey by Bank of America, 86 percent of millennials believe that owning a home is more affordable than renting compared to 54 percent of first-time buyers of all ages. When it comes to the down payment, 78 percent of millennials and 75 percent of first-time buyers of all ages say they would pay for their down payment with savings set aside for a home. Almost all respondents (87 percent) say they would take advantage of assistance programs when purchasing a home, but only 47 percent believe they would qualify for these programs.
American Consumer Credit Counseling has compiled a list below to help consumers understand mortgage terms.
- Adjustable rate mortgage (ARM): a mortgage in which the interest rate is not fixed but is tied to an index and is periodically adjusted as the rate index moves up and down. The initial rate is lower than the fixed mortgage. Such ARMs commonly provided for an option to convert to a fixed rate mortgage.
- Amortization: a repayment method in which the amount you borrow is repaid gradually through regular monthly payments of principal and interest. During the first few years, most of each payment is applied toward the interest owed. During the final years of the loan, payment amounts are applied almost exclusively to the remaining principle.
- Annual percentage rate (APR): the actual cost of borrowing money, expressed in the form of an annual rate to make it easier to compare the cost of borrowing money among several lenders or sellers on credit. The APR includes all the financing costs of a mortgage, including points, origination fees and other finance charges and mortgage interest.
- Appraisal: a written estimate of a property’s current market value, based on recent sales information for similar properties, the current condition of the property and how the neighborhood might affect future property value.
- Balloon (payment) mortgage: a mortgage providing for specific payments at stated regular intervals, with the final payment considerably more than any periodic payments. Usually paid over a short-term, such as five to seven years. This type of mortgage may be beneficial if you move before the final payment, as you can benefit from a slightly lower rate. Although it has favorable rates, it can cause problems, even foreclosure, if the borrower can’t afford the final payment when it is due.
- Closing costs: fees incurred in a real estate or mortgage transaction and paid by the borrower during the closing of the mortgage loan. However, sometimes these fees are paid by the seller. These typically include a loan origination fee, discount points, attorney’s fees, title insurance, appraisal, survey and any items that must be prepaid, such as taxes and insurance escrow payments. The cost of closing is usually about 3 percent to 6 percent of the mortgage amount.
- Down payment: the difference between the purchase price and that portion of the purchase price being financed. Most lenders require the down payment to be paid from the buyer’s own funds. Gifts from related parties are sometimes acceptable and must be disclosed to the lender.
- Escrow account: account held by a lender containing funds collected as part of mortgage payments for annual expenses such as taxes and insurance, so that the homeowner does not have to pay a large sum when these are due.
- Federal Housing Administration (FHA) mortgage: the FHA is a federal agency established by Congress in 1934. The FHA insures mortgage loans made by FHA approved lenders on homes that meet FHA standards. FHA loans require lower down payments than conventional mortgages and have less stringent income requirements. These loans are mostly for low-to-moderate income borrowers.
- Fixed rate mortgage: a mortgage with an interest rate that remains constant for the life of the loan, generally repaid over 15 or 30 years. This type of loan allows the borrower to plan a budget based on the consistent cost. A fixed rate mortgage is perhaps the most common, traditional type of mortgage.
- Home equity line of credit: a loan providing you with the ability to borrow funds at the time and in the amount you choose, up to a maximum credit limit for which you qualified. Repayment is secured by the equity of your home. Simple interest (interest-only payments on the outstanding balance) is usually tax-deductible. This line of credit is often used for home improvements, major purchases or expenses, and debt consolidation.
- Home equity loan: a fixed or adjustable rate loan obtained for a variety of purposes, secured by the equity in your home. Interest paid is usually tax-deductible. Often used for home improvement or freeing of equity for investment in other real estate or investment. Recommended by many to replace or substitute for consumer loans whose interest is not tax-deductible, such as auto or boat loans, credit card debt, medical debt and education loans.
- Housing and urban development (HUD): a U.S. government agency established to implement federal housing and community development programs. HUD oversees the FHA.
- Index: a published rate used by lenders to calculate interest adjustments on ARMs (index + margin = interest rate). Some indexes are more volatile than others. Common indexes include the Cost of Funds for the Eleventh Federal District of banks or the average rate of a one-year Government Treasury Security.
- PITI (principal, interest, taxes, and insurance): these are items that are frequently included in the monthly mortgage payment to lenders. Some lenders may allow you to pay taxes and insurance yourself.
- Point: a fee or charge equal to one percent of the principal amount of the loan which is collected by the lender at the time the loan is made. It is collected only once. Generally the lower the interest rate, the more points you’ll pay.
- Prequalification: the process of determining how much money a prospective homebuyer will be eligible to borrow before application for a loan.
- Prime rate: lowest commercial interest rate charged by a bank on short-term loans to its most credit-worthy customers.
- Variable rate: an interest rate that changes periodically in relation to an index. Payments may increase or decrease accordingly.
ACCC is a 501(c)3 organization that provides free credit counseling, bankruptcy counseling, and housing counseling to consumers nationwide in need of financial literacy education and money management. For more information, contact ACCC:
- For credit counseling, call 800-769-3571
- For bankruptcy counseling, call 866-826-6924
- For housing counseling, call 866-826-7180
- Or visit us online at www.ConsumerCredit.com
About American Consumer Credit Counseling
American Consumer Credit Counseling (ACCC) is a nonprofit credit counseling 501(c)(3) organization dedicated to empowering consumers to achieve financial management through credit counseling, debt management, bankruptcy counseling, housing counseling, student loan counseling and financial education concerning debt solutions. To help consumers reach their goal of debt relief, ACCC provides a range of free consumer personal finance resources on a variety of topics including budgeting, credit and debt management, student loan assistance, youth and money, homeownership, identity theft, senior living, and retirement. Consumers can use ACCC’s worksheets, videos, calculators, and blog articles to make the best possible decisions regarding their financial future. ACCC holds an A+ rating with the Better Business Bureau and is a member of the National Foundation for Credit Counseling® (NFCC®). For more information or to access free financial education resources, log on to ConsumerCredit.com or visit https://www.consumercredit.com/debt-resources-tools/