Mortgage Essentials

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What Is a Mortgage?
January 3, 2022

What Is a Mortgage?

by The CE Shop Team

What Are the Basics That Make up the Mortgage Industry?

The mortgage industry is a sizable part of the economy, and mortgage professionals must have an extensive understanding of how it works to best serve their clients. There’s nowhere better to start than the basics. So what are mortgages, and how are they used?

The What, Why, and How of Mortgages

A mortgage is a secured loan used to purchase or refinance a home. Borrowers use mortgages to purchase property without having to pay the full purchase price upfront by taking out a mortgage loan from a lender, which is usually a bank or credit union. If the borrower doesn’t repay the money, the lender has the right to take the property. The borrower will pay back the loan with added interest over a specified period of time until they own the property. Mortgages are paid over a certain term, most commonly 15, 20, or 30 years.

There are two types of mortgage loans: fixed-rate and adjustable-rate.

  • Fixed-Rate Mortgage: These mortgages have the same interest rate for the entire duration of the loan, meaning the borrower’s monthly payments stay the same over time. Fixed-rate mortgages are often called traditional mortgages.
    • So, let’s say a fixed-rate loan is taken out for $100,000. The interest rate at the time of borrowing is 3%, and it will stay fixed at 3% for the duration of the mortgage. In this example, the borrower will make $3,000 payments (3% of $100,000) until their mortgage is repaid in full. This borrower is protected from sudden changes in their mortgage payment if interest rates were to rise, which is what makes this type of mortgage so popular.
  • Adjustable-Rate Mortgage (ARM): These mortgages have variable interest rates. In other words, the mortgage will start at a fixed interest rate for a set period of time, then the interest rate will fluctuate each year or even each month after that point. There is generally a limit on how much the interest rate can change each time it adjusts.
    • For this example, a borrower also takes out a loan for $100,000 with a three-year adjustment period. At the time of borrowing, their interest rate is 3%, and they’ll pay 3% of their mortgage (or $3,000) each month for three years. After that initial three-year term, the interest rate will reset. So, if the borrower’s $3,000/mo. mortgage could become $5,000/mo. (or 5% of the original loan) after the three-year fixed interest rate period concludes. The adjustment period dictates how often borrowers can expect their interest rate to change, which could be monthly, biannually, or in yearly increments.

What is a Mortgage?

Additional Mortgage Terms

Now that you know the basics of what a mortgage is and what it does, you may have questions about other terms in the industry. Here’s a list of mortgage terms you may come across:

  • Amortization: Amortization refers to the repayment of loans through interest and principal payments in order to pay back the loan in full by its maturity date. When starting to pay back loans, a higher majority of the monthly payment will go towards interest, while later on in the repayment schedule a greater percentage will go towards the loan’s principal.
  • Annual Percentage Rate (APR): The APR is the yearly interest paid by a borrower on a loan, and must be disclosed before any agreement is signed.
  • Credit Score: A credit score assesses the risk of a borrower by showing how likely they are to repay debts on time. Credit scores range from 300-850; the higher the credit score is, the more likely a borrower will be able to take out a loan as lenders see less risk associated with them.
  • Delinquent Mortgage: A mortgage is considered to be delinquent if the borrower doesn’t make payments as outlined in their loan terms. Each lender has its own standards, but typically 90 to 120 days past due is considered delinquent.
  • Forbearance: A forbearance occurs when the loan servicer allows borrowers to have a lower monthly payment or no payment at all for a temporary period. Borrowers are required to pay back the missed or reduced payments after the forbearance period.
  • Foreclosure: When a borrower fails to make mortgage payments, the lender or servicer has the right to take back, or foreclose, the property.
  • Interest Rate: This is the amount that is paid each year to borrow the money for a mortgage, and it’s expressed as a percentage. A portion of the interest is a part of the borrower’s monthly payment.
  • Lender: A mortgage lender is a financial institution, usually a bank or credit union, that offers and underwrites home loans. The lender sets the terms, interest rates, and repayment schedule for the mortgage.
  • Origination Fee: This is the fee paid to a Mortgage Loan Officer for preparing a mortgage loan. The fees include the application, underwriting, and processing of a mortgage loan.
  • Principal: This is the remaining balance of a mortgage loan that the borrower must pay back. A borrower’s monthly payment includes a portion of the principal as well as a portion of the interest.
  • Private Mortgage Insurance (PMI): This is insurance that benefits the lender. If the down payment for a property is less than 20%, the borrower may have to pay private mortgage insurance, but can oftentimes cancel it once there is a certain amount of equity in the home.
  • Refinancing: Refinancing occurs when a borrower works with a lender to replace an existing mortgage with a new or revised mortgage under different terms.
  • Secondary Market: The secondary market is where investors are able to buy and sell securities they already own. It’s similar to the stock market, though stocks are sold mostly on the primary market as they’re being sold for the first time.

Now that you’ve got a handle on the basic terms in the mortgage industry, you’re able to dive even deeper into the industry. Looking to become a Mortgage Loan Officer or curious about the ins and outs of the industry? Check out our Mortgage Essentials resources today!

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