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MORTGAGE LOAN

VIEWS: 3 PAGES: 7

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									                M O R T G A G E                                      L O A N
                                                                    Quick Guide




Local Government Federal Credit Union
323 West Jones Street, Suite 600
Raleigh, NC 27603

Toll-free: 888.732.8562
Local: 919.857.2150

Fax: 888.732.8329
Local: 919.857.2000


  Content is intended for informational purposes only. Not all products discussed are
          offered through LGFCU. Please contact us for product availability.




                                                                                        V 2.2
                                                                             Table of Contents

Introduction ...........................................................................................2

The Down Payment ...............................................................................2
       Source 1: Your Own Savings .................................................................................................2
       Source 2: Your Other Assets ..................................................................................................2
       Source 3: Gifts From Parents and Relatives...........................................................................2
       Source 4: Family Loan ...........................................................................................................3

The Underwriting Process ....................................................................3
       How the Bank Qualifies You for a Mortgage.........................................................................3
       Your Debt Ratio .....................................................................................................................3
       Mortgage Affordability Chart ................................................................................................4

Interest Rates and Points.......................................................................4

Fixed Rate or Adjustable Rate Loan? ...................................................5
       Adjustable-Rate Mortgage (ARM).........................................................................................5
       Fixed-Rate Mortgage..............................................................................................................6
       Conventional Mortgage..........................................................................................................6
       Veterans Mortgage .................................................................................................................6
       FHA Mortgage .......................................................................................................................6




                                                                                                                                           1
                                                                                         Introduction
O     nce you’ve decided on the home of your dreams,
      your next step will be to secure financing to
make getting that home a reality. Getting a mortgage is
                                                               How much home you can afford to buy revolves
                                                               around how much of a mortgage payment you can
                                                               afford to make each month (and whether your lender
the next step in making your dream come true. Here             agrees with you!).
are some key things to know about getting a mortgage
loan. (A mortgage is the instrument which will give            If you’re single, you will be your only source of funds.
the lender a security interest in your property, i.e.,         Make certain you’ve taken all your financial needs into
collateral. The loan is evidenced by a Note outlining          consideration, like an emergency fund, for example.
the repayment terms. Hence the phrase “mortgage loan.”)        You won’t have a spouse or co-owner to fall back on if
                                                               finances get tight.
Before the lender agrees to the financing, you need to
meet certain standards that determine if you qualify for       Budgeting how much you can afford is especially
a mortgage loan, and if so, how much. At times, it may         important since what you can afford today, when you’re
seem as though the lender is waving a magic wand in            buying, may not be what you can afford several years
coming up with its determinations, but the truth is that       down the road. Think ahead and plan—prudently.
established rules and formulas exist to guide the lender       What will your income be like? Are new expenses on
in determining the potential creditworthiness of an            the horizon? Keep your eyes on the future, but keep
applicant.                                                     your feet firmly grounded in today.



                                                                       The Down Payment
Getting the Down Payment Together:                             spend an average of 2½ years saving for their down
Traditionally, the standard down payment was 20%,              payment. If you don’t feel comfortable with the
although this is no longer a requirement of all lenders in     amount you’ve managed to put away, we will give you
determining whether or not you can secure a mortgage.          ideas on how to boost your savings rate.
When you consider the fact that housing prices have
increased over the last decade in most parts of the country,
you realize that affording the monthly mortgage payment
                                                               Source 2: Your Other Assets
isn’t necessarily the only thing that keeps folks from         Too often, we think of available cash as just that:
owning their own homes. It’s also coming up with the           money we have managed to save in savings
money for the down payment. So, once you decide you’re         accounts, money market funds and CDs. We lose
ready to take the big step, you need to realistically assess   sight of other assets which we own when, if sold,
your resources and determine what you can afford.              may lead to significant additional sources of money.
                                                               Don’t think of just cash; think of items that you can
You may qualify for mortgages that will accept a lower         convert to cash as well.
down payment. These include FHA and VA mortgages.
Some State Agencies offer special programs for first-time
homebuyers. Also, your lender may accept a lower down          Source 3: Gifts From Parents and
payment. Some require the addition of private mortgage         Relatives
insurance (PMI), an added cost to you that protects the
lender in the event of a loan default. Check with your         If you are fortunate enough to have family members
mortgage representative here for further details.              that want to give you money, you can certainly use it
                                                               to pay for the property. Anyone can give up to $12,000
                                                               per year, or $24,000 per year if it is a joint gift, to as
Source 1: Your Own Savings                                     many people as they wish without having to pay
Today’s down payment requirements make it difficult            federal gift taxes. So, each parent (or grandparent) can
to purchase real estate unless you’ve got a                    give you $12,000. The person receiving the gift is not
considerable sum put away. First-time homebuyers               required to pay income taxes on any amount received.




                                                                                                                       2
Source 4: Family Loan                                       the interest on the loan would be deductible for federal
                                                            income tax purposes. Many lenders will not allow you
If a parent or relative were not willing to give you the    to use borrowed money for your down payment. Check
money you need, perhaps they would consider lending         with your lender for details.
you the money instead. The important thing to
remember here is that they should charge you a              If you have outstanding personal loans, it is to your
reasonable interest rate, reasonable meaning that it is     advantage to finance as much of the price of the home
based on current market rates. Make sure that you have      as possible. By reserving as much of your cash as
a written, enforceable note (a legal document) that         possible, you’ll be able to pay off your personal debt.
clearly spells out the terms of the loan. Without this      By doing so, you will convert non-deductible interest
note, the Internal Revenue Service may decide that          on the personal loan to tax deductible interest on the
your loan is really a gift and impose gift taxes on the     mortgage loan and save some tax dollars, as well as
loan. If the loan is more than $12,000, the IRS sets a      reducing the interest rate on a portion or all of your
minimum interest rate, called the applicable federal        personal debt.
rate (AFR). This rate fluctuates monthly. Consult your
tax advisor for more information.                           Adopt this philosophy: If your money is growing at a
                                                            higher rate than the rate at which a lender will loan you
Make sure that the terms of the note stipulate that it is   the money, borrow the money and leave those
collateralized (secured) by the property. In that way,      investments alone.



                                                      The Underwriting Process
How the Bank Qualifies You for a                            Let’s take a look:
Mortgage                                                    Traditionally, your monthly housing expense should not
                                                            exceed more than 28% to 33% of your gross monthly
Before the lender agrees to loan you the money, you         household income. Again, many lenders today have less
need to meet certain standards that determine if you        strict requirements. Housing expense is defined as your
qualify for a mortgage loan, and if so, how much.           monthly payment of principal and interest, 1/12th of your
Established rules and formulas exist to guide the           annual real estate tax bill, and 1/12th of your cost of home
lender in determining the potential creditworthiness of     insurance (often referred to as PITI). The ratio can vary
an applicant.                                               depending on the lender, the amount of your down
                                                            payment, your other debt, or other factors.
The decision on your home mortgage loan is based on
several basic factors. These include your income, the
amount of your existing debt, how much you will be          Your total monthly payments on all debt, including your
borrowing, the value of the home you are purchasing,        PITI as well as all other installment debt (such as car
and your credit history.                                    loans, credit cards, etc.), should not exceed 33% to 38%
                                                            of your gross monthly income, although many lenders
                                                            now allow percentages in the 40% to 60% range.
Your Debt Ratio
                                                            Be aware that the higher the percentages above that apply
The first thing you need to know about is something
                                                            in your case, the more risk you will be assuming.
called your debt ratio.
                                                            Some lenders will calculate your mortgage debt ratios
Lenders typically follow two general “rules of thumb”
                                                            and offer you a pre-purchase loan commitment before
in determining how much mortgage you can afford
                                                            you buy your home. Having this “pre-approved”
based on your level of income and your existing debt
                                                            status eliminates that uncertainty for the seller and
payments. In today’s environment, reliance on these
                                                            makes you a more attractive buyer. This gives you
ratios is not as rigid as it once was, but it remains the
                                                            additional buying power when negotiating the
“first cut” in estimating how much a bank or mortgage
                                                            purchase price of your potential home.
company is willing to lend you.




                                                                                                                      3
Mortgage Affordability Chart                                       The chart is computed assuming a 30-year fixed rate
                                                                   conventional loan. The figures listed include principal
The following chart (Figure 1) shows you how interest              and interest only. Your monthly tax and insurance
rates affect how much home you can afford to purchase.             escrow will add to your total monthly mortgage
To use it, find the monthly mortgage payment you feel you          payment.
can handle, then look under the interest rate column to
see what loan amount you can afford at various interest            Besides analyzing your income and expense, lenders
rates. As an example, if you can afford a monthly                  are going to look to your ability to handle debt by
mortgage payment of $1,200, you could take out a loan of           scrutinizing your prior credit history. To do so, they
$163,540 at 8%. Your loan amount, and consequently                 will turn to a credit bureau to help establish your credit
the amount of home you could buy, would be reduced                 rating.
to $149,138 if rates were to rise to 9%.

Figure 1: Mortgage Affordability Chart
  Monthly                                                          Monthly
 Payment                        Interest Rate                      Payment                          Interest Rate
                5.0%      6.0%        7.0%      8.0%     9.0%            continued     5.0%      6.0%      7.0%       8.0%      9.0%
     $300     55,884    50,037     45,092  40,885       37,285           $1,300      242,166   216,829   195,400    177,169   161,566
     $400     49,713    66,717     60,123  54,513       49,713           $1,400      260,794   233,508   210,431    190,797   173,995
     $500     93,141    83,396     75,154  68,142       62,141           $1,500      279,422   250,187   225,461    204,425   186,423
     $600    111,769   100,075     90,185  81,770       74,569           $1,600      298,051   266,867   240,492    218,054   198,851
     $700    130,397   116,754    105,215  95,398       86,997           $1,700      316,679   283,546   255,523    231,682   211,279
     $800    149,025   133,433    102,246 109,027       99,425           $1,800      335,307   300,225   270,554    245,310   223,707
     $900    167,653   150,112    135,277 122,655      111,854           $1,900      353,935   316,904   285,584    258,939   236,136
   $1,000    186,282   166,792    150,308 136,283      124,282           $2,000      372,563   333,583   300,615    272,567   248,564
   $1,100    204,910   183,471    165,338 149,912      136,710           $2,100      391,191   350,262   315,646    286,195   260,992
   $1,200    223,538   200,150    180,369 163,540      149,138




                                                                 Interest Rates and Points
L    et’s begin by looking at something you always
     hear about when you talk mortgage basics: points.
                                                                   loan programs more effectively. When trying to decide
                                                                   between two loans, generally the one with the lower
                                                                   APR will be the cheapest.
Lenders make money on mortgage loans two ways: by
charging you interest, which you pay each month when               The problem is that the APR is computed as if you
you send in your payment, and by charging you a                    held the mortgage until you completely paid it off.
“loan fee,” commonly called points, that are paid when             What if you only intend to stay in this home or keep
you take out the mortgage loan.                                    the mortgage for five or six years? You’ll need to look
                                                                   at the effective annual interest rate.
Some loans are “no point” loans, which means that no
money is collected up front. While this helps you with             Here is an example to compare mortgages and come
the cash that you need when buying the home, the                   up with the true cost of the loan:
trade off is that the amount of interest you pay each
                                                                                                     Low Rate and High Rate and
month will be higher.                                                                                  High Points   Low Points
Sounds simple enough, but what does it mean to you?                 a) a) Interest Rate                      5.75%                6%
How do you choose between two different loans and                   b) b) Number of years you               5 Years           5 Years
decide which loan is cheaper for you?                                  plan to own the home
                                                                    c) c) Multiply (a) by (b)               28.75%               30%
One easy measure is to compare each loan’s annual
percentage rate (APR). Each lender is required by law to            d)     Points                              2%               .5%
provide you with this information. The APR measures the             e)     Add lines (c) and (d)           30.75%             30.5%
impact of points and other loan expenses in addition to             f)     Divide line (e) by (b)            6.2%              6.1%
the stated interest rate, letting you compare different                    to get the Effective
                                                                           Annual Interest Rate


                                                                                                                                    4
The effective annual interest rate represents the true       Points paid on a mortgage for the purchase of one’s
annual cost of the loan over the period of time you          principal residence are tax deductible in the year they are
intend to keep the loan. The lower the rate, the lower       paid. Points paid on a mortgage for the purchase of other
the cost of the loan. The effect of paying more points       real estate are deductible over the term of the loan.
will diminish the longer you intend to hold the loan.
Although this example will help you determine your           Assuming equivalent APRs on two mortgages, one
best choice, it does not take into consideration the time    with points and one without, the rule of thumb is that
value of money. If the time value of money is factored       the no point mortgage will be cheaper unless you plan
in, the effective annual interest rate would rise slightly   on staying in your home at least 9 or 10 years.
as you pay more points.


                            Fixed Rate or Adjustable Rate Loan?
O      nce you decide whether you’ll pay points or not,
       your financing decision will probably come
down to two basic options: Should you stick with the
                                                             Let’s look at features shared by all ARMs:

                                                             Lower initial rates: Your starting rate on these mortgages
traditional fixed-rate loan or take a chance on an           are, for the most part, one to four percentage points
adjustable-rate mortgage (ARM)?                              below those on a conventional 30 year mortgage.

Your answer hinges on your individual situation—             An adjustment period: This is the amount of time
specifically:                                                before your mortgage rate adjusts to the market.
       • Your current and future family income,
                                                             A margin and index: The margin is the amount over the
       • Your mobility, and,                                 index that your rate will be set at. For example, if the
       • Where you think interest rates are headed           margin is 2% and the index is 3%, your interest rate will
         in the future.                                      be 5% (3% plus 2 points). The index is a published
                                                             national rate, most frequently the current interest rates
When choosing between an ARM and a fixed-rate                being paid on short-term U. S. Treasury securities.
mortgage, it is important to understand how each
works.                                                       A cap: This is the amount that cannot be exceeded
                                                             during any one-adjustment period. For example, if
The fixed-rate option is fairly straightforward. It has an   your cap is 2 percent (the most common) and your new
interest rate and monthly payments that remain               rate will be 3 percent higher than your current rate at
constant over the life of the loan. With an ARM, the         an adjustment date, the maximum your rate would go
interest rate varies with the index to which it is tied.     up is 2 percent (the cap), not the calculated 3 percent
ARMs usually have low fixed-interest rates, known as         increase.
“teasers,” for an initial period. This period may be six
months to as many as seven years. Thereafter, the rate       ARMs make the most sense for those who relocate
is adjusted based on a predetermined index. Many             frequently. Since initial rates are lower than those
ARMs cap the interest rate at six points over the life of    available with a fixed-rate mortgage, you may be
the loan with annual increases of no more than 2             moving before the mortgage gets a chance to adjust.
points. This helps you avoid “payment shock” if
interest rates rise while you hold the loan.                 A feature common to some ARMs is the ability to
                                                             convert to a fixed-rate mortgage at some future point
                                                             in time. Expect to pay for such a feature in the form of
Adjustable-Rate Mortgage (ARM)                               a higher rate, a fee up front or a fee at the time of
Due to lower initial interest rates, the ARM may be          conversion. This payment may be worth it. If you take
your choice. This is because the lower initial rate can      out an ARM, get the benefit of lower initial rates, and
help qualify you for a larger loan amount and reduce         when interest rates come down, you can lock in at the
your monthly payments. But, don’t forget, that initial       lower rate. You get the best of both worlds, a cheaper
lower rate is usually just temporary, and will               initial mortgage followed by the predictability of a
eventually adjust to the market rate.                        fixed rate later.




                                                                                                                      5
Fixed-Rate Mortgage                                         this amount than you can expect to pay a slightly
                                                            higher interest rate.
For decades, the 30-year, fixed-rate loan was a
universal solution to every borrower’s financing needs.
Although we have seen the growth of many other              Veterans Mortgage
options, this choice still remains the most popular.        If you’re a veteran, you may want to look into a VA
Why?                                                        mortgage. Under this program, the Department of
                                                            Veterans Affairs guarantees repayment on these loans
Predictability. Over the life of the loan, as you pay       to the lender who produces the loan. As a result, you
back your loan, your monthly payments, which consist        may borrow up to a certain amount, often with a small
of principal and interest do not change. Typically,         (between 3% and 5%) down payment. Interest rates are
lenders will also escrow a monthly amount to ensure         usually slightly above those for non-VA sponsored
payment of your real estate taxes, and some also            conventional mortgages. However, there is no private
escrow for your homeowner’s insurance. As your              mortgage insurance to pay.
insurance premium goes up and your property taxes
are increased, your lender will also adjust your
                                                            The term “veteran,” for purposes of VA loan
monthly payment for these escrows. So your payment
                                                            qualification, also includes members of the National
will change, but it won’t be because of your mortgage
                                                            Guard, military reservists with six or more years of
loan. That piece will remain constant. Fixed-rate
                                                            service and some widows of veterans.
mortgages come in several varieties.

Conventional Mortgage                                       FHA Mortgage
The conventional mortgage is the most common. You           If you don’t qualify as a veteran, almost anyone can
take out a conventional fixed-rate mortgage at your         apply, regardless of income, for an FHA mortgage.
lender for a 30 year, 20 year, or 15 year term. Needless    These are insured loans, available through banks and other
to say, the shorter the period of payback, the larger the   lenders. The maximum loan amount is set by the FHA. On
monthly payment. However, since you will be paying          January 1, 2006, that loan limit was increased to
for a shorter period of time, and because the interest      $362,790 (in the nation's most expensive housing
rate on these loans is lower, the shortest mortgage is      markets). Remember those debt ratios we discussed
usually the cheapest.                                       earlier? For FHA loans, lenders relax those require-
                                                            ments so that all your debt cannot exceed 41% of your
Loans greater than $417,000 (as of January 1, 2006)         after-tax income. This means that a lender will qualify
are called Jumbo Loans. They cannot be sold to the          you for a mortgage with FHA sponsorship that you
two largest federal loan agencies, Fannie Mae and           may not have qualified for otherwise. To apply, inform
Freddie Mac. Therefore, if you are borrowing at least       your lender that you will want FHA insurance.




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