Getting a mortgage is a big deal. You’re giving up life as a renter for the chance to earn equity and increase your net worth. But as ready as you are to make this purchase happen, you might not fully understand what you’re walking into.
Some mortgage officers do an excellent job explaining how the process work, but they don’t explain every single mortgage term, and they don’t always provide the clearest explanations. You bear a measure of responsibility as the borrower. So if there’s something you don’t understand or if you need clarification, don’t be afraid to ask questions.
Here are five mortgage questions you shouldn’t be afraid to ask.
1. What’s the difference between a fixed-rate and an adjustable-rate?
There are two main types of mortgages: an adjustable-rate and a fixed-rate. It’s important to have a clear understanding of how both mortgages work, because choosing the wrong one can be a costly mistake.
A fixed-rate mortgage features an interest rate that doesn’t change over the life of the loan. Since the rate doesn’t change, neither does your monthly payment. This results in predictable payments and there’s no risk of payment shock. However, if you’re chasing the lowest mortgage payment, your mortgage officer may suggest an adjustable-rate mortgage.
These mortgages have a fixed-rate for the first three to seven years, and then the interest rate changes every year. Adjustable-rate mortgages start off with a rate that’s lower than most fixed-rate mortgages, resulting in a significant monthly savings. This rate, however, is temporary, and once the internet rate resets, it can increase, decrease or remain the same.
If the rate increases, your monthly payment jumps. Given the unpredictable nature of an adjustable-rate, these mortgages are a better match for borrowers who know they’ll only have a mortgage for a short period of time.
2. What is a prepayment penalty?
When you review your Loan Estimate with a mortgage lender, you’ll learn whether your mortgage has a prepayment penalty. Your mortgage officer may not spend a lot of time explaining what a prepayment penalty is, but it’s important to know how these penalties work.
With this penalty, your lender can charge a fee if you pay off the mortgage within the first few years of the loan term—up to several month’s interest. This clause is include in some mortgage contracts, and the purpose is to discourage borrowers from refinancing their mortgages too soon. Lenders make money off of interest. So the longer a borrower keeps a mortgage, the better. New regulations only allow prepayment penalties for the first three years of a home loan.
Not every mortgage loan features a prepayment penalty. For mortgages that do have this clause, the penalty may only apply when refinancing the mortgage.
3. How can I save on closing costs?
You may prepare financially for a down payment, but closing costs can catch you completely off guard. In addition, you might be surprised to learn how much you owe in closing or settlement fees. On average, closing costs range from 2% to 5% of the sale price. Once your lender offers an estimate of your closing costs, don’t be afraid to ask about ways to lower your fees.
Your mortgage officer isn’t likely to volunteer suggestions, but if you need assistance with the fees, the bank may offer different alternatives. For example, the bank may pay the closing costs if you pay a higher interest rate, or the lender may include closing costs in your mortgage balance. There’s also the option of the seller paying a percentage of your costs. FHA home loans allow sellers to contribute up to 6% toward a buyer’s settlement fees, while conventional loans allow sellers to contribute up to 3%.
4. Can I back out of the mortgage loan?
You’re under no obligation to proceed with a mortgage if you’re having second thoughts or uncomfortable with the terms. The bank wants your business, so your loan officer may not make it clear that you’re free to shop around and work with another lender. But this option is always available to you. Just make sure you choose a mortgage company before making an offer on a house. If a seller accepts your bid, and you then switch mortgage lenders, this can delay the process. And if the sale doesn’t go through, you could lose your earnest money deposit.
5. What determines my interest rate?
Interest is the fee you pay the bank for funding your mortgage. Interest rates aren’t one-size-fits-all. Different factors determine your mortgage rate, such as the amount of your down payment and your credit score. Since the interest rate has a huge impact on your monthly payment, you want to get the best rate possible.
Inquire as to how you can get a lower mortgage rate. For example, paying off a credit card and reducing your debt-to-income ratio could be the difference between a mortgage rate of 3.8% and 3.4%—which saves about $40 a month on a $230,000 mortgage.
A mortgage is a major commitment and a big investment. So getting a home loan isn’t the time to be shy or “go with the flow.” Speak up, ask questions, and make sure you understand the process from start to finish.
What’s another important mortgage questions to ask?