Real Estate Finance

Finance 101

It's hard to imagine a real estate transaction without some sort of financing.  Most people don't have the cash in hand necessary to buy a house and the ability to finance the purchase a home is fundamental to the functioning of the real estate market and our economic system as a whole.

I'm a Realtor, not a mortgage broker, so my vested interest here is not to make you a loan, but to make sure that you have all the information you need to get the best loan possible in order to buy a house. There are many web sites sponsored by lenders and loan brokers who are interested in making you a loan (and I've listed some of my favorites below for you in this page), but I waned to do something a little different and provide you with my objective advise on what you should know before you apply for a loan.

If you are thinking about financing a home, it really, really important to think a loan as a commodity that you would shop for the same as you would if you were going to by a car. Just as automobiles come in different varieties like sedans, coupes, SUVs, and mini-vans, loans come in varieties like fixed, adjustable, and interest only. In addition, just like different dealers can charge more or less for the same car, lenders and loan brokers can do the same.

As you can see from the table to the right, there are an extremely large number of choices available for you when it comes to getting a mortgage. You probably wouldn't buy a car without researching and understanding the options, and you should feel the same way about shopping for a mortgage. Shopping for a loan is critical to purchasing a home, and finding the right loan will not only save you money, but will also cause your real estate transaction to run much more smoothly.

Of course, which loan is "right" for you is going to be different for every person, so read on to get the scoop on the things that you're going to want to know before you apply.

What you need before you apply for a loan...

Mortgage Brokers vs. Direct Lenders

When you look for a mortgage you may either deal directly with a lender who makes real estate loans or work through a broker who finds a lender for you and then processes the loan. Lenders wholesale loans to brokers who make a commission for arranging the loan. Mortgage brokers may further mark up or discount the loan by adding adding positive or negative points and increasing or decreasing the rate of the loan. You may thing that you might save money by dealing directly with a lender, but this is not always the case. Rates between lenders can vary and a loan broker is able to shop between many lenders looking for the your best rate, including smaller lenders that you might not be able to find on you own.

Clean Up Your Credit Before Applying for a Mortgage

Before you apply for a mortgage, take the time to check your credit history with the 3 main credit bureaus. You are entitled to a free credit report from each of the bureaus once a year and also if you get turned down for a loan. You may also challenge any negative reports about you as well as adding a message to any negative entry.

• Equifax: www.equifax.com
  
• TransUnion: www.transunion.com
  
• Experian: www.experian.com
  

How Banks Determine Credit Worthiness

Income. When you're qualifying for a loan, lenders usually use your gross income (all the money you earn before taxes) to determine the monthly mortgage payment you can afford. Gross income may also include the average of overtime pay and commissions, and child support or alimony, if you wish to have them considered.

Monthly mortgage payment as a percentage of your income. In general, lenders require that your total monthly mortgage payment — principal, interest, property taxes, mortgage insurance, hazard insurance and any homeowner association dues — be no more than 28% to 33% of your monthly gross income.

Your total debt situation. You may have car loans, student loans, credit cards, child support, alimony or other monthly expenses. In general, lenders require that the total of all your monthly expenses (excluding basics like utilities and groceries) not exceed 38% of your gross monthly income.

Credit history. A satisfactory record of paying your bills on time is an important part of getting a home loan. If you've had credit difficulties within the past two years, a good explanation of any late or missing payments on your credit report will be taken into consideration.

Employment history. Lenders usually prefer to lend money to people whose incomes have grown steadily over the past several years and who have worked consistently in the same or related occupations. You will need to verify employment. If you're self-employed, work on commission or have been at your job less than two years, you may need to provide additional information about your work history.

Property appraisal. A professional appraisal is done to determine the value of the home. An appraisal is based on the home's condition and selling prices of comparable properties in the area and confirms that the property is worth the purchase price you're offering for the home.

Credit involves the borrowing of funds with the intent to repay the lender at a later date, such as credit cards, car loans and student loans.

Credit report. After receiving a loan prequalification request or application, the lender will request a credit report from the credit bureau. The credit bureau collects and organizes information about people who have credit. The information generally goes back seven to 10 years. This report includes your name, address, employer, length of employment and previous credit history. Credit history includes account types, balances remaining, payment status, collection information and inquiries.

Lack of credit history. Most traditional mortgage loans generally require some kind of established credit history. Some lenders offer flexible home loan options for people with limited or no established credit history. These options look at other ways to establish credit worthiness, such as timely payments of rent and utility bills.

What you should know about credit reports
reports document your financial behavior over the past seven years — how much credit you have, how long you've had it and whether you pay your bills on time, among other things. Knowing what information is in your report can help you identify any problem areas and plan what steps you might take to correct them.

Three credit reporting agencies — Equifax, TransUnion and Experian — maintain credit reports. Lenders buy credit reports to help them decide whether to offer you a prequalification. You can also purchase a copy of your report from these agencies. Your credit report contains information about:

• Credit accounts and payment history
• Applications you have made for loans and other time payments
• Personal information, including your name address and Social Security number
• Employment information
• Legal actions (for example, judgments, collections, bankruptcy)

Your credit report also carries your credit score, a numeric ranking between 300 and 850 that many lenders use to decide whether you are creditworthy. The score is used to help predict whether you'll repay a loan. It's calculated using five sources:

• Payment history
• Amount owed
• Length of credit history
• New credit
• Types of credit in use

In addition to telling lenders your creditworthiness, your credit score can also influence the interest rate you pay. In many cases the higher your score, the lower your interest rate. Your credit score is available from the three credit reporting agencies.

Fixed-rate mortgage. You pay the same interest rate and same monthly payment of principal and interest for the duration of the mortgage. The most common

Loan Points

When considering whether or not to pay points, most borrowers use the Break Even Analysis method. By paying points and obtaining a lower rate, your client will have a lower payment. It's up to your client to decide whether the monthly savings is worth the up front cost of the points. In the same example above, a $100,000 loan at 6.00% for 30 years has a monthly payment of $600. If your client pays 1.00 point ($1000), his/her rate would be 5.75% and the monthly payment would be $584. This represents a monthly savings of $16. So, in effect, your client would have paid $1000 up front to save $16 per month. At this rate, it would take just over 62 months (over 5 years) to recoup his/her investment or "break even". Using the Break Even Analysis, take the following into consideration when helping your clients decide how many points to pay:

• Clients plan to stay in their home for less than 3 - 4 years
• Clients think they will refinance their loan within the next few years
• Clients are applying for an adjustable rate mortgage

• Clients plan to stay in their home for more that 5 years
• Clients plan to keep their property as an investment after they move
• Clients don't plan on refinancing in the near future

Types of Mortgages

Learn About Loans. A 5 year "Fixed Period" ARM can be especially attractive to you. This program provides the stability of a fixed payment for a full 5 years at an interest rate lower than the 30 year fixed rate loan. A 3 year Fixed Period ARM usually has a lower starting rate during the 3-year fixed period than even the 5 year loan program.

Mortgage insurance and Guarantees

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Mortgage Information Library

For more specific information, please feel free to reference the library below provided for you by Mortgage101.com