Q:

Home Ownership 101: What is a mortgage loan?

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Quick Answer

A mortgage, or a mortgage loan, is a loan that a bank or lending institution offers homeowners to help them pay for a home. A mortgage loan is a reciprocal agreement between a homeowner and a lender where, in exchange for the lender providing financial support, the homeowner agrees to pay that money back in a certain period of time. A mortgage is a legally binding process, which means that financial institutions can take legal action to collect money or possess the homeowner's property if he or she does not give the lender the agreed-upon amount of money in the set period of time. If the homeowner fails to make requisite payments, he or she is said to have defaulted on the mortgage loan.

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Full Answer

Components of a Mortgage
The mortgage is usually paid in monthly installments. Each payment consists of two main parts, which are the principal and interest. Insurance and taxes may also be included in the monthly mortgage payment. When a homeowner repays the principal, he or she is paying back the amount of money borrowed to buy the home. If he or she borrowed $300,000 to make a home purchase, for instance, then $300,000 is the size of the principal for that mortgage. The interest is the cost to the homeowner for borrowing the principal portion of the mortgage from the lender. Essentially, it is similar to a tax, but it applies to each mortgage on an individual basis. Interest rates vary based on several factors, including the duration of the mortgage and whether or not the mortgage has a fixed interest rate.

Mortgage insurance is the insurance that a homeowner assumes with the mortgage. Homeowners insurance offers protection to the home, and sometimes the property in the home, in the event of an accident, disaster, fire or other situation that damages or destroys the home. In addition to homeowners insurance, borrowers may also have to purchase mortgage insurance. This is usually the case if the homeowner makes a down payment of less than 20 percent on the home. Mortgage insurance protects the lender in case the homeowner defaults on the loan. Sometimes, if homeowners repay their loans in full and in time each month, lenders eliminate the mortgage insurance payment after a certain period of time. This typically happens when the homeowner reaches the halfway point of the loan, or when the loan-to-value (LTV) rate reaches 78 percent. Homeowners can also request to have their mortgage insurance cancelled when the LTV rate reaches 80 percent.

Applying for a Mortgage
Getting a mortgage loan can be a lengthy process and it requires a significant number of documents. Before applying for a mortgage loan, homeowners should know what type of home they want to buy, what size loan they qualify for and what their budget is for the home. This information determines the type of mortgage that the homeowner gets and what the length of the loan will be. Homeowners should also be prepared to give lenders their banking information, provide proof of income and employment, which is usually done through a W-2 form or a pay stub and any debt that he or she owes. Homeowners will also have to provide divorce papers if applicable.

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