Buying and Selling/Mortgages
| Author | Jeffrey Wilson |
| Pages | 1151-1156 |
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Most people borrow money in order to purchase their home. A loan for this purpose is commonly called a home loan or mortgage. The term mortgage originates from two Latin words. The first, "mort" is from the Latin word for death. The second, "gage" means pledge or promise. The word "mortgage" literally means "dead promise." While this may seem nonsensical at first, it actually makes sense: the property was considered forfeited or "dead" to the borrower if the loan were not repaid. Similarly, once the loan was satisfied, the promise itself was dead or unenforceable.
Typically a mortgage is secured by a lien on the property. The mortgagor is the party transferring the interest in land. The mortgagee is the provider of the loan. A mortgage is paid in installments that include both interest and a payment on the principle amount borrowed. With respect to which entity has title to the property, a number of possibilities exist. Under the title theory, title to the security interest rests with the mortgagee. Most states follow the lien theory under which the legal title remains with the mortgagor unless there is foreclosure. The intermediate theory applies the lien theory until there is a default on the mortgage whereupon the title theory applies.
A mortgage involves the transfer of an interest in land as security for a loan. The mortgagor and the mortgagee generally have the right to transfer or assign their respective interest in the mortgage. Standard contract and property law provisions govern the transfer or assignment of any interest. There are several different types of mortgages available.
A fixed rate mortgage carries an interest rate that will be set at the inception of the loan and remain
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constant for the length of the mortgage. A 30year mortgage will have a rate that is fixed for all 30-years. At the end of the 30th year, if payments have been made on time, the loan is fully paid off. To a borrower the advantage is that the rate will remain constant and the monthly payment will remain the same throughout the life of the loan. The lender is taking the risk that interest rates will rise and it will carry a loan at below market interest rates for some or part of the 30 years. Because of this there is usually a higher interest rate on a fixed rate loan than the initial rate and payments on adjustable rate or balloon mortgages. If the rates fall, homeowners can pay off the loan by refinancing the house at the then lower interest rate.
An adjustable rate mortgage (ARM) provides a fixed initial interest rate and a fixed initial monthly payment for a short period of time. With an ARM, after the initial fixed period, which can be anywhere from six months to six years, both the interest rate and the monthly payments adjust on a regular basis to reflect the then current market interest. Some ARMs may be subject to adjustment every three months while others may be adjusted once a year. Also, some ARMs limit the amount that the rates can change. While an ARM usually carries a lower initial interest rate and lower initial monthly payment, the purchaser is taking the risk that rates may rise in the future.
An alternative form of financing, usually a last resort for those who cannot qualify for other mortgages, is owner financing or owner carryback. The owner finances or "carries" all or part of the mortgage. Owner financing often involves balloon mortgage payments, since the monthly payments are frequently interest only. A balloon mortgage has a fixed interest rate and fixed monthly payment, but after a fixed period of time, such as five or ten years, the whole balance of the loan becomes due at once. This means that the buyer must either pay the balloon loan off in cash or refinance the loan at current market rates.
A home equity loan is usually used by homeowners to borrow some of the equity in the home. Doing so may raise the monthly housing payment considerably. More and more lenders are offering home equity lines of credit. The interest may be tax deductible because the debt is secured by a home. A home equity line of credit is a form of revolving credit secured by a home. Many lenders set the credit limit on a home equity line by taking a percentage of the home's appraised value and subtracting from that the balance owed on the existing mortgage. In determining the credit limit, the lender will also consider other factors to determine the homeowner's ability to repay the loan. Many home equity plans set a fixed period during which money can be borrowed. Some lenders require payment in full of any outstanding balance at the end of the period.
Home equity lines of credit usually have variable rather than fixed interest rates. The variable rate must be based on a publicly available index such as the prime rate published in major daily newspapers or a U. S. Treasury bill rate. The interest rate for borrowing under the home equity line will change in accordance with the index. Most lenders set the interest rate at the value of the index at a particular time plus a margin, such as 3 percentage points. The cost of borrowing is tied directly to the value of the index. Lenders sometimes offer a temporarily discounted interest rate for home equity lines. This is a rate that is unusually low and may last for a short introductory period of merely a few months.
The cost of setting up a home equity line of credit typically includes a fee for a property appraisal, an application fee, fees for attorneys, title search, mortgage preparation and filing fees, property and title insurance fees, and taxes. There may also be recurring maintenance fees for the account or a transaction fee every time there is a draw on the credit line. It might cost a significant amount of money to establish the home equity line of credit, although interest savings can justify the cost of establishing and maintaining the line.
The federal Truth in Lending Act requires lenders to disclose the important terms and costs of their home equity plans, including the APR, miscellaneous charges, the...
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