FINANCING 101: Obtaining Financing for Your Home Purchase

Your lender's job is to completely understand your particular financial circumstances. A situation rarely arises that your loan officer has not encountered in the past. Do not hesitate to discuss any questions you have regarding your assets, income or credit. By providing complete information, you prevent delays in settlement. Although there are certainly other lenders in addition to the ones your real estate professional suggests, including lenders you might have used in another area, we strongly suggest that you choose a lender familiar with the area and your particular property type. Ask your REALTOR® for a list of lenders familiar with real estate here.

Loan Application Checklist

The checklist that follows is a general guide to assist you with the loan application. Some of the items listed may not apply to you and your lender will probably request some items that we have not mentioned, but this list will get you off to a good start.

• Copies of the past 2 years W-2s;
• Copies of your 2 most recent paystubs;
• Copies of your most recent month's bank statements;
• Contact name and number for employment verification;
• If any of your properties are owned free and clear, please provide a copy of the homeowners insurance policy and tax bill.

If you are self-employed, work on commission, receive substantial bonus income or own multiple properties, you may need to provide the following items as well:

• Complete copies of past 2 years personal income tax returns;
• Complete copies of past 2 years corporate tax returns or partnership returns;
• Year-to-date profit and loss statement for past complete year for your business.

Loan Processing

After you have provided all required information, the lender will submit your loan for approval. In the interim, the lender will send your mortgage disclosure documents. These documents will provide an estimate of settlement costs and monies needed for your settlement. Additional documentation may be requested at that time. It is very important that you respond to any requests in a timely manner so the lender can expedite your approval. Following loan approval, any conditions required by the lender as a part of the approval must be satisfied.

Selecting a Loan Program

If you anticipate owning your home for many years, the interest rate may be the primary determining factor for you. If you expect to keep the house for only a short period of time, the closing costs may be more important to you. If you wish to pay off any mortgage debt by the time you expect your children's college bills to roll in or by the time your retirement, you may wish to consider a shorter term loan, such as a 15-year fixed-rate mortgage. If your retirement is years away, you may be less inclined toward a shorter-term loan, preferring instead to extend payments over a longer period of time through taking on a 30-year mortgage loan.

How important is the certainty of a fixed mortgage payment each month? If you want to make sure your mortgage payment remains the same each month, then you'll want to focus on various fixed-rate loans. If you are comfortable with periodic changes to your mortgage interest rate, then you may be inclined to consider adjustable-rate mortgages.

Fixed-rate mortgage loans

A fixed-rate mortgage ensures that your interest rate (and your payments) will stay the same over the life of your loan, which may be an important consideration if you plan to stay in your home for several years. When you choose the length of your repayment (usually 15, 20 or 30 years), keep in mind that while shorter term loans may have higher monthly payments, they also let you pay less interest and build equity faster.

30-year fixed-rate mortgage loan

The advantage of a 30-year fixed-rate mortgage loan is that it is the easiest for which to qualify, and it gives you an excellent opportunity to keep your mortgage payments reasonable by making monthly payments over a long period of time. This mortgage loan may be ideal if you plan to own your home for years and wish to keep your housing expense low and use any extra cash for other purposes. This loan also provides maximum interest deduction for tax purposes. Also, this program allows flexibility. Should you decide to make payments higher than your monthly mortgage commitment for a certain period of time, most mortgage companies are happy to provide the infrastructure to allow for this. And then, should you need to drop back to your normal payment, that opportunity still exists.

20-year fixed-rate mortgage loan

The 20-year mortgage often offers a lower interest rate compared to a 30-year loan. This mortgage amortizes principal and interest over a 20-year period, 10 years less than the traditional 30-year mortgage. This may save you a considerable amount of total interest paid over the life of the loan, but your payments will be higher.

15-year fixed-rate mortgage loan

The advantage of a 15-year mortgage is that its interest rate is lower than its 30-year or 20-year cousin. Such a shorter-term mortgage will save you a significant amount of interest over the life of the loan. By paying off the mortgage more quickly, you also build up equity in your home faster. A 15-year mortgage can let you own your home clear of debt earlier, which may be important if you are approaching retirement or have other large expenses to cover, such as financing your children's education. However, the monthly payments you make on a 15-year mortgage are higher than those you would make on a 30-year or a 20-year mortgage loan for the same total mortgage amount.

Adjustable-rate loans

With an adjustable-rate mortgage (ARM), the interest rate you pay is adjusted from time to time based on changing market rates. This means that when interest rates go up, your monthly mortgage payments may go up as well. On the other hand, when interest rates go down, your monthly mortgage payments may also go down. ARMs are attractive because they may initially offer a lower interest rate than fixed-rate mortgages. Since the monthly payments on an ARM start out lower than those of a fixed-rate mortgage of the same amount, you can qualify for a larger loan.

The chief drawback, of course, is that your monthly payments may increase when interest rates go up. The types of people who typically benefit from an ARM are those that are planning to sell or refinance in the near future, people with a high likelihood of increasing their income in later years, and people who need lower initial interest rates on their mortgage to be able to buy their home. How much your payments can increase will depend on the terms of your mortgage.

Before applying for an ARM, be sure you know how high your monthly payments could go - the so-called "worst-case scenario." An ARM has two "caps," or limits on how large an interest rate increase is permitted. One cap sets the most that your interest rate can go up during each adjustment period and the other cap sets the maximum total amount of all interest adjustments over the life of the loan. The rates on an ARM usually change once or twice a year, and there is typically a lifetime rate cap (or limit) on both the amount of each individual rate adjustment and the total amount the rate can change over the whole term of the loan. For example, if your loan starts at 5 percent, has a 2 percent per-adjustment cap, and a lifetime adjustment cap of 4 percent, you know that your loan might go up to 7 percent the first time the rate changes. You also know that the rate can never go over 9 percent over the life of the loan (5 percent to start, plus 4 percent lifetime cap). Only you can determine if you would feel comfortable paying this interest rate sometime in the future.

Some ARMs offer a conversion feature, which allows you to convert from an adjustable-rate to a fixed-rate loan at only certain times during the life of your loan. Ask your lender about this feature when researching ARMs. One important thing to know when comparing ARMs is that the interest rate changes on an ARM are always tied to a financial index. A financial index is a published number or percentage, such as the average interest rate or yield on Treasury bills.