Mortgage Loan
A mortgage loan is a loan secured by real property through the use of a mortgage (a legal instrument). However, the word mortgage alone, in everyday usage, is most often used to mean mortgage loan.
A home buyer or builder can obtain financing (a loan) either to purchase or secured against the property from a financial institution, such as a bank, either directly or indirectly through intermediaries. Features of mortgage loans such as the size of the loan, maturity of the loan, interest rate, method of paying off the loan, and other characteristics can vary considerably.
Basic concepts and legal regulation
According to Anglo-American property law, a mortgage occurs when an owner (usually of a fee simple interest in realty) pledges his interest as security or collateral for a loan. Therefore, a mortgage is an encumbrance on property just as an easement would be, but because most mortgages occur as a condition for new loan money, the word mortgage has become the generic term for a loan secured by such real property.
As with other types of loans, mortgages have an interest rate and are scheduled to amortize over a set period of time; typically 30 years. All types of real property can, and usually are, secured with a mortgage and bear an interest rate that is supposed to reflect the lender's risk.
Mortgage lending is the primary mechanism used in many countries to finance private ownership of residential property:
- Property: the physical residence being financed. The exact form of ownership will vary from country to country, and may restrict the types of lending that are possible.
- Mortgage: the security created on the property by the lender, which will usually include certain restrictions on the use or disposal of the property (such as paying any outstanding debt before selling the property).
- Borrower: the person borrowing who either has or is creating an ownership interest in the property.
- Lender: any lender, but usually a bank or other financial institution.
- Principal: the original size of the loan, which may or may not include certain other costs; as any principal is repaid, the principal will go down in size.
- Interest: a financial charge for use of the lender's money.
- Foreclosure or Repossession: the possibility that the lender has to foreclose, repossess or seize the property under certain circumstances is essential to a mortgage loan; without this aspect, the loan is arguably no different from any other type of loan.
Many other specific characteristics are common to many markets, but the above are the essential features. Governments usually regulate many aspects of mortgage lending, either directly (through legal requirements, for example) or indirectly (through regulation of the participants or the financial markets, such as the banking industry), and often through state intervention (direct lending by the government, by state-owned banks, or sponsorship of various entities). Other aspects that define a specific mortgage market may be regional, historical, or driven by specific characteristics of the legal or financial system.
Mortgage loans are generally structured as long-term loans, the periodic payments for which are similar to an Annuity and calculated according to the time value of money formula. The most basic arrangement would require a fixed monthly payment over a period of ten to thirty years, depending on local conditions. Over this period the principal component of the loan (the original loan) would be slowly paid down through Amortization. In practice, many variants are possible and common worldwide and within each country.
Lenders provide funds against property to earn interest income and generally borrow these funds themselves (for example, by taking deposits or issuing bonds). The price at which the lenders borrow money therefore affects the cost of borrowing. Lenders may also, in many countries, sell the mortgage loan to other parties who are interested in receiving the stream of cash payments from the borrower, often in the form of a security by means of a Securitization). In the United States, the largest firms securitizing loans are “Fannie Mae” and “Freddie Mac”, which are, government sponsored enterprises.
Mortgage lending will also take into account the (perceived) riskiness of the mortgage loan, that is, the likelihood that the funds will be repaid (usually considered a function of the creditworthiness of the borrower); that if they are not repaid, the lender will be able to foreclose and recoup some or all of its original capital; and the financial, interest rated risk and time delays that may be involved in certain circumstances.
Mortgage loan types:
There are many types of mortgages used worldwide, but several factors broadly define the characteristics of the mortgage. All of these may be subject to local regulation and legal requirements.
- Interest: interest may be fixed for the life of the loan or variable, and change at certain pre-defined periods; the interest rate can also, of course, be higher or lower.
- Term: mortgage loans generally have a maximum term, that is, the number of years after which an amortizing loan will be repaid. Some mortgage loans may have no amortization, or require full repayment of any remaining balance at a certain date, or even negative amortization.
- Payment amount and frequency: the amount paid per period and the frequency of payments; in some cases, the amount paid per period may change or the borrower may have the option to increase or decrease the amount paid.
- Prepayment: some types of mortgages may limit or restrict prepayment of all or a portion of the loan, or require payment of a penalty to the lender for prepayment.
The two basic types of amortized loans are the fixed rate mortgage (FRM) and Adjustable Rate Mortgage (ARM) (also known as a Floating Interest Rate or variable rate mortgage). In many countries, floating rate mortgages are the norm and will simply be referred to as mortgages; in the United States, fixed rate mortgages are typically considered "standard." Combinations of fixed and floating rate are also common, whereby a mortgage loan will have a fixed rate for some period, and vary after the end of that period.
In a fixed rate mortgage , the interest rate, and hence periodic payment, remains fixed for the life (or term) of the loan. In the U.S., the term is usually up to 30 years (15 and 30 being the most common), although longer terms may be offered in certain circumstances. For a fixed rate mortgage, payments for principal and interest should not change over the life of the loan, although ancillary costs (such as property taxes and insurance) can and do change.
In an adjustable rate mortgage , the interest rate is generally fixed for a period of time, after which it will periodically (for example, annually or monthly) adjust up or down to some market index. Common indices in the U.S. include the Prime Rate, the London Interbank Offered Rate (LIBOR), and the Treasury Index ("T-Bill"); other indices are in use but are less popular.
Adjustable rates transfer part of the interest rate risk from the lender to the borrower, and thus are widely used where fixed rate funding is difficult to obtain or prohibitively expensive. Since the risk is transferred to the borrower, the initial interest rate may be from 0.5% to 2% lower than the average 30-year fixed rate; the size of the price differential will be related to debt market conditions, including the “Yield Curve.
Additionally, lenders in many markets rely on credit reports and credit scores derived from them. The higher the score, the more creditworthy the borrower is assumed to be. Favorable interest rates are offered to buyers with high scores. Lower scores indicate higher risk for the lender, and higher rates will generally be charged to reflect the (expected) higher default rates.
Loan to Value and Down Payments
Upon making a mortgage loan for purchase of a property, lenders usually require that the borrower make a down payment, that is, contribute a portion of the cost of the property. This down payment may be expressed as a portion of the value of the property (see below for a definition of this term). The loan to value ratio (or LTV) is the size of the loan against the value of the property. Therefore, a mortgage loan where the purchaser has made a down payment of 20% has a loan to value ratio of 80%. For loans made against properties that the borrower already owns, the loan to value ratio will be imputed against the estimated value of the property.
The loan to value ratio is considered an important indicator of the riskiness of a mortgage loan: the higher the LTV, the higher the risk that the value of the property (in case of foreclosure) will be insufficient to cover the remaining principal of the loan.
Value: Appraised, Estimated, and Actual
Since the value of the property is an important factor in understanding the risk of the loan, determining the value is a key factor in mortgage lending. The value may be determined in various ways, but the most common are:
Actual or transaction value : this is usually taken to be the purchase price of the property. If the property is not being purchased at the time of borrowing, this information may not be available.
Appraised or surveyed value : in most jurisdictions, some form of appraisal of the value by a licensed professional is common. There is often a requirement for the lender to obtain an official appraisal.
Estimated value : lenders or other parties may use their own internal estimates, particularly in jurisdictions where no official appraisal procedure exists, but also in some other circumstances.
Equity or Homeowner's Equity
The concept of equity in a property refers to the value of the property minus the outstanding debt, subject to the definition of the value of the property. Therefore, a borrower who owns a property whose estimated value is $400,000 but with outstanding mortgage loans of $300,000 is said to have homeowner's equity of $100,000.
Payment and Debt Ratios
In most countries, a number of more or less standard measures of creditworthiness may be used. Common measures include payment to income (mortgage payments as a percentage of gross or net income); debt to income (all debt payments, including mortgage payments, as a percentage of income); and various net worth measures. In many countries, Credit Scores are used in lieu of or to supplement these measures. There will also be requirements for documentation of the creditworthiness, such as income tax returns, pay stubs, etc; the specifics will vary from location to location. Many countries have lower requirements for certain borrowers, or "no-doc" / "low-doc" lending standards that may be acceptable in certain circumstances.
Standard or Conforming Mortgages
Many countries have a notion of standard or conforming mortgages that define a perceived acceptable level of risk, which may be formal or informal, and may be reinforced by laws, government intervention, or market practice. For example, a standard mortgage may be considered to be one with no more than 70-80% LTV and no more than one-third of gross income going to mortgage debt.
A standard or conforming mortgage is a key concept as it often defines whether or not the mortgage can be easily sold or securitized, or, if non-standard, may affect the price at which it may be sold. In the United States, a conforming mortgage is one which meets the established rules and procedures of the two major Government Sponsored Entities in the housing finance market (including some legal requirements). In contrast, lenders who decide to make nonconforming loans are exercising a higher risk tolerance and do so knowing that they face more challenge in reselling the loan. Many countries have similar concepts or agencies that define what are "standard" mortgages. Regulated lenders (such as banks) may be subject to limits or higher risk weightings for non-standard mortgages. For example, banks in Canada face restrictions on lending more than 75% of the property value; beyond this level, mortgage insurance is generally required (as of April 2007, there is a proposal to raise this limit to 80%).
Specific Mortgage Types Offered By Dominican Mortgage Broker
Repayment Mortgage – Typical mortgage offered by lenders around the world
A straight repayment mortgage is a term generally used around the world to describe a mortgage in which the monthly repayments consist of repaying the capital amount borrowed as well as the accrued interest. The mortgage statement, usually received annually, shows the amount borrowed decreases throughout the term.
The big advantage of a repayment mortgage is that at the end of the mortgage term, the full amount of the debt has been repaid. As time moves on, the equity percentage in the property increases. However, in the early years the bulk of the mortgage repayments consist of the interest component, so not much of the capital is actually paid off for some time.
Refinance – Specialized mortgage that allows the borrower to capitalize on an existing property with an existing lien. If the owner can negotiate better terms with a new lender he can then reduce his payment. An option many home buyers exercise when home interest rates drop. For example an owner with a property originally financed for 30 years at 9% can save on interest and reduce the term if he existing market interest rate were to drop to 6.5%.
Equity loan (also known as a cash-out) is a mortgage placed on real estate in exchange for cash to the borrower. For example, if a person owns a home worth $100,000, but does not currently have a lien on it, they may take an equity loan at 80% loan to value (LTV) or $80,000 in cash in exchange for a lien on title placed by the lender of the equity loan.
Residential Mortgage Finance for Project Developers is also available. They offer a guaranteed residential loan for your project. The lender bases the amount of the loan on the amount of the residential sell out, minus a percentage for cash buyers and the amount of buyer down-payment. Essentially each buyer who qualifies and accepts a loan has it guaranteed, which in turn guarantees you, the builder, that you will receive your payment for the sale throughout the construction time.
If your project is approved and the commitment made by the lender, they are willing to introduce your project to other investors for the purpose of obtaining an infrastructure loan: either a conventional loan, joint venture or equity partner, as required. The investor could also bring a flagship hotel if you have plans for a top of the line hotel in your project. The Infrastructure loan in the sense, that it would be used for roads, sewer, electrical, landscaping, commercial buildings, etc.
We do have experience in this regard as we were successful in obtaining a loan commitment from the lender for a project here on the North Coast in the Dominican Republic. As part of the process we rewrote and formatted all the documentation required by the lender. This included the Executive Summary, pro-forma, monthly breakout, assumptions, etc. If required we can either assist in developing that data or write all of your documentation for lender presentation.
The above four mortgage options are offered by our lender . The following conditions apply. The mortgage term is thirty years (30) at 7.95% fixed for the first five (5) years with the remainder set as an Adjustable Rate Mortgage (ARM). A prepayment penalty is imposed beginning at 5% of the loan volume for the first year of the loan and decreasing to 1% in the fifth year. Thereafter the loan can be paid off or accept the ARM terms.
There are many more details and explanations that will assist in understanding mortgages and mortgage lending practices, to include information on Predatory Mortgage Lending . I highly recommend all interested buyers visit the following Wikipedia website http://en.wikipedia.org/wiki/Mortgage_loan#Mortgage_loan_types or any reputable lending institution’s link that discusses mortgage finance.
The above material has been obtained from/modified under the Wikipedia “GNU Free Documentation License”. Any copy and reproduction of this material is subject to that same license requirement.
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