Escrow and Other Loans Terms
As you are going through the home loan process, you will run across a few industry-specific terms. Ask your lender to explain these terms so that you fully understand the type of loan you are applying for, the lender’s policies, and other information that will be important throughout the life of the loan. Here are some common terms you may encounter.
Earnest Money and Escrow
When you make an offer on a home, you are required to make an escrow deposit to show the seller you are serious about buying the home. The earnest money will be placed in escrow and will not be paid directly to the seller. An impartial third party will hold the funds until you and the seller negotiate a contract and close the deal. Neither the buyer nor the seller can access the funds.
Provided a contingency has been included in the contract, a buyer can back out of the contract and have their escrow money returned. Some reasons for cancelling contract include inability to obtain financing or a bad inspection report. Usually, there is a specified time limit for buyers to decide to back out of a contract.
If the buyer backs out of the contract for a reason not listed as a contingency, or backs out past the agreed upon time period, the money is released to the seller.
If the deal closes within the timeline, the escrow money will be applied toward the purchase of the home.
Mortgage
Even though you have heard of a mortgage before, you probably thought of it as the home loan you will be paying once you move into your new home. Technically, a mortgage is a lien on your home created by your lender. If you cannot make payments on your home, the lender will have the right to sell the property to gain the money that they have lost.
Foreclosure
This is a term that refers to homes whose owners could not make payments each month. Once a lender has decided to sell the home, it will be in foreclosure. You should find ways to work with your lender in case you miss a mortgage payment at any time. Having this knowledge in advance will make financial emergencies easier to deal with.
Mortgage Broker
A mortgage broker is a person who does not work for a bank, but rather works on commission to match home buyers with many lenders that may not be in your area. If you have poor credit, you may want to secure a home loan through a mortgage broker because you will have a better chance than going through a bank that only has one lender to choose from – themselves.
Points
This refers to the interest rate on your loan. If you choose an adjustable rate loan, for example, your points may be capped each year so that they cannot exceed a certain number.
Down Payment
There are several benefits to a down payment. It will lower the amount of money you will need to borrow for a home loan, it will allow lenders to see that you are responsible for paying off a mortgage, and it will speed up the home buying process. Most first time homeowners will put down no more than 20% of the purchase price for a down payment.
You do not want to overextend yourself by putting a huge down payment on a home. Ensure you have enough money to make your mortgage payments, purchase new furniture, or make any unexpected home repairs.
Debt-to-Income Ratio
Lenders use your debt-to-income ratio to determine if you can afford estimated monthly mortgage payments on your current income. The lender will subtract all your reoccurring debt to determine how much is left for a mortgage payment.
During the approval process, do not buy a car or make purchases using your credit cards. The lower the amount of your total debt, the better your debt-to-income ratio will be.
Private Mortgage Insurance
If you cannot afford at least a 20% down payment on a home, you may not be approved for a loan unless you purchase private mortgage insurance. Although you pay the premiums, the insurance protects the lender if the you default on the loan and the market value of the home is less than outstanding debt.
The lender receives the difference between the market value of the home and the loan balance at the time of default, up to a predetermined limit.