What is a Mortgage?
 

A mortgage is the most common form of financing for real estate transactions. A mortgage is a legal contract between mortgagee which is generally a bank or other lending institution and a mortgagor which is the borrower. This legal document contains the amount of money borrowed to buy the property and the interest rate that applies. The piece of property is used as collateral in a mortgage. There are many types of mortgages with some of the popular ones being, fixed, adjustable, graduated-payment, graduated-equity, shared-appreciation, and balloon mortgages


Fixed-Rate Mortgage
A fixed-rate mortgage is a mortgage where the interest rate on the loan remains the same throughout the lifetime of the loan. It is by far the most popular type of mortgage. It is stable and provides little to no risk like some other mortgages that are not fixed. The advantage is that monthly payments will remain the same. However, if you lock into a higher interest rate, the rate will not change, even if interest rates go down in the future.

The lowest monthly payments come from 30-year fixed-rate mortgages. However, these mortgages also take longest to build up equity in your home. Experts recommend a 30-year mortgage if you are planning to stay in your home for several years and want a stable rate.

Also common are 15-year fixed-rate mortgages. These loans spread the principal and interest across a 15-year period, after which you have paid off your loan. Because of the shorter term of the loan, you can build up equity in your home at a much faster pace. However, monthly payments are higher than for a 30-year fixed-rate mortgage. Experts recommend a 15-year fixed-rate mortgage if you are planning to sell your home in a few years and want a stable rate.


Adjustable-Rate Mortgage
Adjustable-Rate Mortgages, or ARMs as they are commonly called, are ones in which the interest rate changes periodically according to a fixed index. This type of mortgage is best suited for those whose can afford to take the risk of interest rate change. If the interest rate goes up during the period of your mortgage your payments will also go up, however; if the interest rate goes down your payments will decrease.  A 1-year ARM adjusts the interest rate annually. Monthly payments will increase or decrease along with the index rate, which is specified by the mortgage. Common indices include 1-year Treasury notes, Federal funds rate and the national cost of funds index. A margin -- usually one or two percentage points -- is added to the index rate.

Adjustable-rate mortgages include two caps on the amount the rate can increase or decrease. One cap limits the interest rate adjustment in any one adjustment period (e.g. one year in a one-year ARM), and the second cap limits the interest rate adjustment across the lifetime of the loan.

The advantage of an adjustable-rate mortgage is that monthly payments can decrease when the index goes down. However, monthly payments will increase when the index goes up.

One way of shortening the length of your mortgage is to purchase a balloon mortgage. It works like an ARM or a fixed-rate mortgage for the first several years. After that period of time has expired, you owe a large payment -- sometimes the remaining balance on the loan. The advantage of this type of loan is that it keeps monthly payments low. Experts recommend this type of loan for people who are planning to sell their homes within a few years, and can pay off the balloon payment from the proceeds of the sale of the house. There are two categories of adjustable-rate mortgages, one year adjustable are adjust annually and the others are set up by you and the lender on a schedule of when the adjustment will occur. Adjustable-rate mortgages run for 1, 3, 5, 7, or 10 years.


Balloon Mortgage
A balloon mortgage if it can be obtained can be a very risky way to finance a piece of property. Balloon mortgages are generally not available from lenders. If one is obtained it is usually from the seller of the property. A balloon mortgage requires that interest be paid over a period of time and at the end of the set amount of time the entire principle in due. This is very risky because if the borrower is unable to pay the principle at the time or find financing the borrower could lose all the money that is invested in the property.


A convertible Mortgage
A convertible loan is an ARM that can be converted to a fixed-rate mortgage after a specified number of years. There may be a cost associated with this.


Second Mortgages
The amount of Second Mortgage Loans may be up to 100 percent of the estimated value of the property less the amount of any first mortgage. A Second Mortgage Installment Loan places an additional mortgage on your home, but the money usually comes in a lump sum, rather than in a series of advances made available by writing checks on an account. Second Mortgages typically have fixed interest rates and fixed payment amounts.

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