How does a mortgage work?

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by keshawn , in category: Real Estate Investing , 10 months ago

How does a mortgage work?

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1 answer

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by heather , 10 months ago

@keshawn 

A mortgage is a loan provided by a lender (typically a bank or mortgage company) to an individual or entity to finance the purchase of a property. Here is a simplified overview of how a mortgage works:

  1. Application: The borrower applies for a mortgage by providing their personal and financial details to the lender. This includes information about their income, assets, credit history, and the property they wish to purchase.
  2. Loan Pre-approval: Based on the information provided, the lender assesses the borrower's creditworthiness and determines the maximum loan amount they are eligible for. This pre-approval helps the borrower set their budget while house hunting.
  3. Down Payment: The borrower is required to make a down payment, which is an upfront payment towards the purchase price of the property. The amount is usually a percentage of the total property price. A higher down payment often leads to better loan terms.
  4. Mortgage Agreement: If the borrower finds a suitable property and their offer is accepted, they enter into a purchase agreement with the seller. Simultaneously, they work with the lender to finalize the mortgage agreement, which includes details about the loan amount, interest rate, repayment term, and any additional fees or conditions.
  5. Closing: Prior to the closing, a home inspection and appraisal will typically take place. At the closing, both the borrower and seller sign the contract, and the borrower pays the remaining closing costs, such as attorney fees, application fees, and property taxes.
  6. Repayment: After closing, the borrower starts repaying the loan in monthly installments over the agreed-upon term, usually 15 to 30 years. Each payment includes both principal (the loan amount) and interest (the cost of borrowing). Initially, a larger portion of the payment goes towards interest, but over time, more is applied to the principal.
  7. Interest Rate: The interest rate on the mortgage determines the cost of borrowing. It is either fixed (remains the same throughout the loan term) or adjustable (may change after a certain period). The rate depends on various factors, including the borrower's creditworthiness, prevailing market rates, and the type of mortgage.
  8. Escrow: Some mortgages require an escrow account, wherein a portion of each monthly payment is set aside by the lender to cover property taxes and homeowners insurance. The lender then pays these bills on the borrower's behalf.
  9. Mortgage Insurance: If the borrower makes a down payment of less than 20% of the property value, they may be required to pay mortgage insurance. This protects the lender against potential default.
  10. Refinancing: Borrowers can refinance their mortgage at a later stage, which involves replacing their existing mortgage with a new one to obtain more favorable terms, interest rates, or to access equity.


It is important to note that mortgage terms and requirements may vary across countries and lenders. It is advisable to consult with a mortgage professional or financial advisor to understand the specific details and options available.