| What exactly is a mortgage? Simply put, it's a loan
from a financial institution to you. In return, you pay interest on the amount
loaned. The lender also has first dibs on your house in case you neglect to pay
back the loan.
Francophiles and wordsmiths will recognize the root word
"mort" in there. No, that's not your Uncle Mort; that's the French word
for "dead." The idea is that you're going to kill off that loan, by
paying back the money you borrowed. You amortize the loan, over time. Yes, it's
a slow death, but it must be carried out.
A loan has three facets:
1. size (how many dollars you need to borrow)
2. interest (the percentage
rate you pay on the loan)
3. term (how long it will take to pay off the loan)
The first one is self-explanatory (although there are choices you can make with
regard to the down payment, which we'll investigate in a little while).
The other two are more complicated. Let's look first at the interest rate.
The Calculation of APR (Annual Percentage Rate)
The annual percentage rate
is a method developed under federal law to disclose to loan applicants the actual
amount of interest that will be paid on a given loan, over the life of that loan.
It makes it easy to compare one mortgage to another by making it an apples-to-apples
comparison. You should, however, use the APR as just one tool in evaluating a
loan, not as the sole factor in making your decision.
To understand APR,
you must first understand the concept of points. A point is 1% of the loan amount.
If the loan is for $100,000, one point is $1,000.
There are two types
of points: origination and discount. Origination points are the fees normally
charged by a lender, and sometimes by a mortgage broker, for originating, or starting
up, your loan. Discount points are charged to lower your interest rate, and this
lowers your payments. In other words, if you pay some more money up front, the
bank will let you pay less over time.
Both types of points should be considered
interest that you pay up front. Therefore, you must figure points into the cost
of your loan repayment. If you take out a loan for $120,000 at 9% interest for
30 years, and you pay one origination point and one discount point, you're paying
a total of two points, or $2,400. Your payment will be $965.55 per month.
To get the proper APR on your loan, then, you have to add that $2,400 to your
starting balance, since (remember?) it is interest, albeit prepaid interest. This
makes your total loan $122,400. Figure the new payment on that balance, which
works out to $984.00. Now return to the original loan amount and (ready, mathematicians?)
compute the polynomial backwards to reach the interest rate it would take to equal
the payment on the total loan. It works out to roughly 9.23%.
In paying
points to lower your rate, a good rule of thumb is that it will take you about
five years to make up the additional point(s) paid; then you will begin saving
money over the remaining term of the loan.
By federal law, lenders are
required to send you a TIL (no, that's not something you get your hand caught
in when you're stealing -- it stands for Truth in Lending) statement within three
days of applying for a loan.
Article continued at http://www.fool.com/homecenter/finance/finance02.html Directory
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