Mortgage 101

Mortgages are among the most important financial transactions that we make during our lives. It is very important to understand how they work, how the loan process works and to understand basic mortgage terminology.

1003: Form 1003 is the standard mortgage loan application form. The loan officer will fill this form out when you initially apply for the loan. The information will include names, addresses, social security numbers dates of birth, employment and income information, asset information, a projected payment for the new loan, and liabilities taken from the credit report.

Term: The term of the loan is the length of time or duration of the loan. Traditionally, mortgages last for 30 years, but there are other term options available, including 10, 15, and 20 years.

Rate: The rate is the interest rate at which you pay back the loan. The higher the interest rate, the higher your payment and the lower the amount of your payment which is applied to the principle balance of your loan.

PMI: Private Mortgage Insurance(PMI) is not to be confused with homeowners insurance. PMI is a specialized type of insurance, that insures the lender against default by the borrower to a certain extent. On conventional loans, the lender can make PMI mandatory if the loan to value(LTV) is above 80%. In general, the higher the LTV and the lower the credit, the more the PMI will cost. PMI is tacked onto the monthly payment.

LTV: Loan to Value(LTV) is the percentage of the appraised value or purchase price that you are financing. It is important to understand that LTV is figured differently on purchase transactions than it is on refinance transactions. The LTV on a purchase transaction is whatever percentage of the purchase price that you are borrowing. On a refinance transaction, LTV is whatever percentage of the appraised value you are borrowing. In general, the lower the LTV, the easier it is to get approved and the better the interest rate.

Appraisal: The appraisal is the document or the process that establishes the current market value of the property. The Appraiser does an interior and exterior inspection of the property and does an analysis of other similar properties in close proximity that have sold recently.

Title Insurance: Title insurance and title inspections are a requirement of all mortgage loans. The title inspection is the process of analyzing the chain of ownership of the property and establishing how many liens/loans are on the property. Title insurance is a specialized type of insurance that protects the buyer or borrower against errors or other issues that might arise in connection to the title of the property. The title inspection will also uncover any civil judgements lodged against borrowers.

Tri-merge: This is a term that refers to a merged credit report that pulls information from all three major credit bureaus: Transunion, Equifax and Experian. Generally, mortgage companies will use the middle of the three scores from the three credit bureaus.

These are just a few of the basic terms associated with a mortgage, but they are important ones for new borrowers or buyers to understand.

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Homeowners Insurance and Your Mortgage

Let me outline a situation that happens all too often in the loan process; the customer has been pre-approved, the titlework is done, the appraisal has come in above the purchase price, everyone is just waiting on final approval and closing instructions. Then, out of the blue there are problems. The homeowners insurance is higher than the loan officer initially estimated in the loan application.

So what?

Here is why this can be a potentially huge problem; The loan officer can only make a somewhat educated guess as to how much the insurance premium will be. The debt to income ratio--a ratio of your income verses your monthly obligations including your new mortgage payment with insurance included--- is affected by the insurance premium and if the premium comes in higher, the underwriting decision is invalidated and has to be re-run.

For loans underwritten to conform to Fannie Mae/Freddie Mac guidelines, debt ratio can be a huge issue; sometimes causing an otherwise clean deal to be either turned down or put in a different pricing tier---higher rates.

While it is true that the insurance premium is derived in a large part from the property itself, an equally important factor in deriving premium is the individual borrower's insurance score. In other words, I'll pay a different rate than you will to insure the same exact property for the same exact amount of coverage. Why? My consumer history is different from yours. My credit history is different from yours and my claims history is different from yours.

What's the point?

The point is, until the loan officer or realtor or the customer gives an insurance agent the exact customer specific and property specific information, the insurance premium the loan officer used to get the pre-approval is a guess. Which means the debt ratio is a guess, which means the pre-approval could be meaningless.

A loan officer can take a customer's information, input it, pull credit and generate an automated Fannie Mae/Freddie Mac underwriting decision in minutes. This almost always has to happen first, because realtors and sellers usually will not take an offer seriously until they know a customer has been pre-approved for the loan. The pre-approval process is done by the loan officer, not by an insurance agent, so there is simply no way for the LO to know the true premium. Most LO's will overestimate the premium to protect against premium swings. A truly experienced LO will ask permission to get an insurance quote as well, or instruct the borrower to obtain one BEFORE issuing a mortgage pre-approval letter and BEFORE the deal goes to contract.

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