The post Adjustable-Rate Mortgage (ARM) vs. Fixed-Rate Mortgage: Which Should Borrowers Choose? appeared first on RealtyHop Mortgage Center.
]]>Each month, homeowners will pay a mortgage payment that consists of two portions: an amount toward the original loan balance, called the principal, and some interest. Homebuyers can use a mortgage payment calculator to estimate their monthly payments. The higher the interest rate, the more homeowners must pay monthly. Homeowners may need to adjust their budgets to accommodate higher interest rates.
Changes in interest rates can result in real-time effects on real estate prices. In 2022, interest rates hit record-high levels, pricing buyers out of the market as they could not afford larger monthly payments. Throughout 2023, those buyers returned to the housing market when interest rates dropped. In addition to this effect on home prices, changes in interest rates may also affect the type of mortgage a buyer chooses.
Interest rates impact your buying power and can vary between lenders and individual mortgage loans. For this reason, all borrowers should understand each mortgage lender’s ARM loan meaning vs. fixed-rate loans.
An adjustable-rate mortgage offers the borrower an interest rate that fluctuates based on an underlying index or benchmark, such as the Federal Reserve’s prime rate. Generally, adjustable-rate mortgages begin with a lower introductory rate than similar fixed-rate loans. However, the interest rate for an ARM changes after a specified time, based on a stated current index rate at the reset date, plus an additional amount, known as a margin.
Lenders typically label ARM loans using two numbers, such as 5/1 or 7/1. The first number represents the introductory period or the years until the beginning interest rate resets. The second number represents the rate reset frequency after the initial period. For example, a 5/1 ARM would carry the same interest rate for the first five years and then reset every year, based on the underlying benchmark rate, for the remainder of the life of the loan.
ARMs carry more risk, as buyers cannot determine how far an interest rate will sway down the line. For this reason, they are less popular than standard fixed-rate mortgages. Adjustable rate mortgages comprised only about 10% of the mortgage market in 2022.
Homebuyers looking into ARM loans should inquire about interest rate caps. These caps help to reduce risk by assuring the loan’s interest rate does not exceed a set amount. In addition to lender specifications, government regulations may dictate the highest allowable rate for mortgages. Borrowers considering an adjustable rate mortgage should ensure that the lender places a cap on the rate to avoid a spike in interest rates leading to an unaffordable payment.
Over the life of a long-term loan such as a mortgage, the changeable nature of adjustable interest rates creates a degree of uncertainty for the borrower. Although credit cards and other kinds of debt may also offer adjustable interest rates, the larger balance associated with a mortgage means that even a small change in interest can significantly affect monthly payments.
A fixed-rate mortgage carries the same interest rate over the life of the loan. The payment will not change for a fixed-rate loan, eliminating the risk related to changes in interest rates. As a result, the predictable nature of a fixed-rate mortgage makes them popular for most homebuyers. Fixed-rate loans simplify budgeting and financial planning for homeowners because they don’t need to worry about shifting money around to cover higher mortgage payments. However, if interest rates decrease significantly, fixed-rate borrowers will not benefit unless they take steps to refinance their current loan.
Even with the additional interest rate risk, an ARM could make sense for a particular homebuyer under certain conditions. Some situations where you may consider looking into an adjustable-rate mortgage include the following:
If you buy a home with the intention of moving again when you start a family or relocate for a job, an ARM could make sense. The adjustable rate’s lower introductory rate could compare favorably to a fixed-rate mortgage loan. By paying lower interest rates during the introductory period, a homeowner could plan to save the additional funds in their budget for a larger down payment on their next home purchase. By the time the introductory period expires and interest rates rise, the homeowner might have already sold the property, paid off the ARM, and moved on, thus avoiding the need to pay the higher, adjustable rate.<
ARM loans rise in popularity when interest rates rise, as they provide a lower alternative to fixed rates in the first few years of the loan. The borrower could accept a lower introductory rate and anticipate that the high current rates will drop by when the loan resets. Or, the borrower could plan to terminate the loan and refinance or buy a new home before rates reset. For example, borrowers who selected an ARM throughout 2022 may benefit from a lower rate if rates fall by the time their introductory period expires.
Each borrower must consider current interest rates, which type of mortgage loan the lender offers them, and their relative confidence in future interest rate movement. If a buyer accepts the additional risk of an ARM and rates do not move as predicted, they must plan to cover the higher monthly payments until they can refinance or obtain a new mortgage loan.
First-time buyers lacking a supportive credit history or those who don’t qualify for the lowest interest rates may choose an adjustable-rate mortgage due to its lower introductory rate compared to a fixed-rate loan. The borrower will have time to pay down their debt, improving their credit rating. This could help them qualify for a future refinance or a new loan with a lower, fixed interest rate.
Prospective buyers who aim to purchase a property as soon as possible but do not yet meet conventional loan requirements may opt for an ARM to ensure they meet their homeownership goals.
Borrowers looking for stable, predictable monthly payments tend to gravitate toward fixed-rate loans. For first-time borrowers, fixed-rate mortgages may seem easier to grasp and can help them stay on track through the early years of homeownership. Although borrowers risk losing the chance to lower their payments if rates decrease, avoiding the risk of a higher payment can entice them to choose this type of loan. If interest rates do drop, fixed-rate borrowers can refinance to lower their monthly mortgage payments. They will pay some fees to refinance but can still benefit from restructuring a loan if rates drop significantly.
Homebuyers may select a fixed-rate loan due to the following reasons:
When interest rates approach historic lows, similar to rates seen during the recent COVID-19 pandemic, borrowers will prefer a fixed-rate mortgage. Despite recent increases, interest rates remain below historic highs, making fixed-rate loans affordable for many homebuyers. Due to the inherent stability of a fixed-rate loan, risk-averse borrowers continue to rely on this type of mortgage during periods of economic uncertainty. They may even push up their buying timeline to secure a favorable rate on a fixed loan. If current interest rates slowly increase, homebuyers may feel pressured to lock in a fixed rate before they become priced out of the market.
A fixed-rate loan makes budgeting and financial planning easier. Your monthly housing payment may comprise a significant portion of your spending budget, which means you will want to limit the risk of this amount increasing as much as possible. While you may accept adjustable rates for a credit card or smaller loan, you may find it more difficult to deal with a large change to your mortgage payment. If your mortgage amount remains the same, you can easily determine how much income you’ll have left to cover other items, such as home renovations, vacations, or college tuition for your kids.
Before you decide on a fixed-rate mortgage vs. an ARM, take the time to understand how interest rates affect your payments. Although the popularity of adjustable-rate mortgages shifts along with changes in interest rates, more buyers prefer the stability of fixed rates.
Each lender must prepare a truth-in-lending disclosure to document the terms of the loan they offer. If you’re considering an ARM, pay special attention to the interest amounts in the disclosure. Ask the lender to talk you through the information to help you understand the terms of your loan. The lender must report the maximum interest you could pay if your interest resets to a higher rate.
Even if you believe interest rates will drop in the future or you plan to sell the home before the rate resets, life is unpredictable. Ask yourself if you could pay a higher amount of interest if needed. Before you select an ARM, compare the total interest for a similar-term, fixed-rate loan. Based on your personal risk tolerance, you may want to pay a slightly higher fixed rate rather than accept the chance you may need to pay the maximum rate of the adjustable rate mortgage. If you stay with a fixed-rate loan, you can also take other steps to lower your interest rate, such as paying points upfront.
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]]>The post Should You Use a Co-Borrower on a Mortgage? appeared first on RealtyHop Mortgage Center.
]]>Bringing in a co-borrower may make sense for your home purchase, but before committing to this type of arrangement, it’s crucial to make sure all borrowers understand what’s involved and how it affects the ownership of the home.
When an individual applies for a mortgage, the lender evaluates their ability to pay off the loan using their financial information. But in many cases, more than one person contributes to a home purchase. When two or more people apply for a mortgage loan together, the lenders may consider them as co-borrowers.
A co-borrower agrees to accept joint responsibility for the mortgage loan repayment. Married couples sharing home ownership often apply for a mortgage as co-borrowers. Typically, when the home purchase goes to settlement, both co-borrowers will own the house, and lenders will require both names on the title to the property.
Examples of co-borrowers include married couples, unmarried couples, or parents and children. Co-borrowing arrangements are common among home buyers, and lenders often have fairly set rules or guidelines they follow in these situations. In 2022, married couples accounted for 61% of recent home buyers, according to the National Association of Realtors (NAR), down from 66% reported by the Consumer Financial Protection Bureau in 2016. The NAR further reported that unmarried couples now make up around 10% of home buyers, the highest rate they have ever recorded.
Lenders consider both co-borrowers’ credit histories and income during the approval process. The double income helps borrowers qualify for a larger mortgage loan because both individuals will contribute to the loan repayment.
A co-borrowers’ good credit will also improve your chances of approval. Conversely, if a co-borrower does not have good credit, they may lower your chances of approval. In these situations, you should weigh the pros and cons of the additional income against their less-than-stellar credit history before adding them to your mortgage application.
Co-borrowers should prepare to participate fully in the mortgage approval process. Each co-borrower can expect to complete the following steps:
Both co-borrowers and co-signers assume financial responsibility for paying off a mortgage loan. Generally, someone agreeing to a co-signer status is only willing to accept the responsibility of repaying a loan when the original borrower defaults. Typically, co-signers do not have any ownership interest in the home secured by the mortgage, while a co-borrower is also a co-owner.
Lenders generally treat co-borrowers as co-owners of the property. In these cases, the lender will ask to see the co-borrower’s name on the title. Married couples, long-term partners, or other groups who share an ownership interest in a home might want co-ownership advantages.
Alternatively, co-signers step in to help a buyer get approved for a loan. Generally, the co-signer does not intend to live in the home or ask for an ownership interest. When a buyer’s credit improves, the co-signer may ask them to refinance the mortgage and remove the co-signing obligation.
If you’re unsure about using a co-borrower versus a co-signer, ask your lender about the responsibilities they impose on each of these parties. Each lender may formulate its guidelines about adding a co-borrower or co-signer. They may also have slightly different underwriting policies they use to evaluate a mortgage file with more than one applicant. The type of mortgage program you choose may also have specific rules about co-borrowers versus co-signers. For example, FHA loans allow non-occupant co-borrowers on a loan, as long as one of the borrowers makes the home their primary residence.
Like a co-borrower, the term co-buyer also refers to situations where more than one person agrees to join together to purchase a home. A co-buyer in a cash purchase would not need to borrow funds using a mortgage loan, but they may still want to have their name on the title. In some instances, lenders may use the terms co-buyer and co-borrower interchangeably.
Co-buyers may be married partners, friends, or relatives. This label may also describe a group of people buying a vacation home together who intend to split the costs of maintaining the property.
Despite the various terms lenders use to describe mortgage applicants, one thing is true: Co-borrowers, co-signers, and co-buyers all have some degree of financial responsibility for a home. The decision to buy a house with a co-borrower often means sharing both the obligation and the ownership for the property. As a buyer hoping to qualify for a new mortgage loan, listing your spouse, parent, or partner on the application can help you get approved. But remember that if the co-borrower’s name is on the property title, they own the home with you. For this reason, it’s essential to clarify all parties’ financial rights and responsibilities with both the lender and your co-borrower or co-signer.
If someone asks you to take on the role of co-borrower, it’s important to understand your responsibilities and what benefits you’ll receive, including any ownership claim to the house secured by the mortgage. Ask your lender or a real estate lawyer about the differences in co-signing versus co-borrowing before agreeing to move forward with the home purchase.
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]]>The post What is the FHA Streamline Refinance Program? appeared first on RealtyHop Mortgage Center.
]]>The United States Department of Housing and Urban Development (HUD) offers several mortgage products for homeowners nationwide. HUD works with mortgage lenders to provide the FHA streamline refinance program, which allows homeowners to reduce their monthly mortgage payments by acquiring a lower interest rate. Through the streamline process, homeowners can quickly and easily secure a lower interest rate on their FHA mortgage by working with a HUD-approved lender.
Those who refinance their FHA loan can quickly complete the process, as the program does not require the typical set of paperwork that homeowners outside of the program need to refinance their mortgages. Homeowners in good financial standing who meet the following criteria may qualify for streamline refinancing:
Note that individual approved lenders throughout the country offer FHA loans. These lenders may impose additional rules needed to qualify for a streamline refinance. For this reason, you should check several options before choosing a lender to work with for this program.
Borrowers may request what’s known as a “credit” or “non-credit” streamline refinance of their FHA loan. With a credit refinance, the qualification process reviews a borrower’s credit history. If you recently improved your credit score, you may want to request this type of refinancing, which can net you lower rates or loan terms. A non-credit refinance does not include an additional credit review beyond the basic streamline program requirements. Neither of these programs requires a home appraisal.
An FHA streamline refinance allows you to restructure your mortgage loan relatively quickly compared to other refinance options. In this way, you can take advantage of better rates, if available, or change the time it takes you to pay off your loan. To speed up the process, you won’t need to provide the same amount of documentation required when you first applied for an FHA loan. The lender also streamlines their underwriting process, further decreaisng the time it takes to approve the new loan.
While you can save on the cost of an appraisal using the streamline finance program, lenders may still charge fees to administer the program. Lenders may also offer “no-cost” refinances by charging borrowers a higher interest rate. The additional interest the lender receives then covers the costs of closing the loan.
Ask your lender to disclose any closing costs or fees you’ll need to pay for a streamline refinance before you make a final decision.
At closing, FHA loan borrowers must pay an upfront mortgage interest payment (UMIP) of 1.75% of the loan’s balance. This translates into a $1,750 cost for a $100,000 mortgage loan. When refinancing an FHA loan into another FHA loan, the UMIP applies to the new loan as well. However, borrowers may receive a partial refund of the UMIP paid on their original loan if they refinance to another FHA loan within the first thirty-six months of the original closing.
When considering a refinance, look at options beyond the FHA streamline loan. Depending on your home’s equity and your credit score, you may find better alternatives available. The purpose of a refinance isn’t necessarily to complete it quickly; you want to secure a loan that gives you a significant financial benefit. You also want to take advantage of your home’s increase in value through a cash-out refinance.
FHA borrowers who have considered the property they wish to refinance as their primary home for the prior twelve months may request a cash-out refinance option. Expect a more stringent approval process for an FHA cash-out refinance than the streamlined program. When taking cash out, the total amount of the newly refinanced mortgage may not exceed 20% of the home’s value.
If your home has increased in value, you may request a reappraisal to recalculate your current equity amount and determine how much you could receive using a cash-out refinance. You may use the cash for whatever purpose, such as to pay off other, higher-interest rate debt or fund a home renovation project.
If changes in your credit or income now allow you to meet lender guidelines, refinancing to a conventional mortgage could provide additional benefits worth the time required to provide documentation. Check the current interest rates offered on conventional mortgages and ask your lender if you might qualify.
Rising rates or a failure to meet loan qualification requirements could take refinancing off the table at the current time. Consider paying extra monthly principal to bring down your mortgage balance until your circumstances change. This can help to pay off your mortgage faster, which might be one of your goals for refinancing. Look at your monthly budget to determine if you have any money tagged for discretionary spending that can be added to your mortgage payment. FHA loans do not have prepayment penalties, although other mortgage loans might still charge fees for paying off your loan early.
Before you choose to refinance an FHA loan, compare your current interest rate to what lenders can offer. Don’t forget to add fees such as the cost of an upfront mortgage insurance premium and any closing costs into the refinance equation. Under the right circumstances, refinancing can be a smart financial decision to help you pay off your home faster, with less interest.
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]]>The post What is a Piggyback Loan appeared first on RealtyHop Mortgage Center.
]]>A second mortgage can help you bridge the gap if you fall short on your down payment. Similar to a primary mortgage, a second mortgage loan uses your house as collateral. The key difference is that the second mortgage loan has subordinated debt.
If you default on your mortgages, the secondary mortgage lender won’t receive any payments until you satisfy the first mortgage. Secondary mortgage lenders, therefore, accept a higher risk when they lend out this kind of loan, as they will have to supplement a loss more than a primary mortgage lender. To compensate them for the added risk, lenders charge higher interest rates for secondary mortgages than primary mortgages.
A piggyback mortgage is a second mortgage that typically closes simultaneously with the first mortgage. The piggyback loan helps borrowers buy a home by providing the necessary funds to cover situations like a down payment shortfall. Homebuyers who do not have the financing to cover a down payment can acquire a piggyback mortgage with a higher interest rate than their primary mortgage to ensure they afford the home.
Borrowers can also use piggyback loans instead of acquiring a jumbo loan. In 2022, a jumbo loan categorizes as one for more than $647,200, meaning any homebuyer who needs financing for more than that amount will need a jumbo loan with a high-interest rate. In a market like New York City, where the median price of a home hits $869,000, many homebuyers would likely need this high-interest loan to acquire a home.
Therefore, homebuyers may instead acquire a low-rate first mortgage and a smaller, higher-rate second mortgage. Both loans together may produce a better-combined rate than paying the interest on a jumbo mortgage covering the entire owed amount.
Piggyback mortgage lenders typically offer an 80-10-10 configuration. The first mortgage covers the first 80% of the home price, a piggyback loan covers 10%, and the final 10% represents the buyer’s down payment. Homebuyers can acquire other splits, such as an 80-15-5 configuration. Those looking for a condominium may use a 75-15-10 option.
The most common piggyback loans include home equity loans or HELOC, which are home-equity lines of credit. Borrowers can pay down a HELOC balance, but the line of credit remains open for borrowers to use for future financing needs.
Ask your mortgage lender if they offer piggyback mortgages. Some lenders will not provide the first and second mortgages for the same property. In this case, you can ask for a referral to another lender for your second mortgage.
There are several reasons homebuyers may choose to borrow a piggyback mortgage, as they offer the following benefits:
If you want to purchase property but have not saved enough money to afford your down payment, taking out a piggyback mortgage can help you accomplish your goal sooner. With rising interest rates, homebuyers may be weary of waiting longer to purchase a home as they lose 6% of their purchase power with ever 0.5% interest rate increase. Therefore, they may buy now to avoid losing more purchase power down the road.
Combining the first mortgage with a piggyback mortgage instead of taking out a jumbo mortgage loan may be an option to consider, depending on the interest rates that each loan offers. A piggyback loan also allows you to purchase a home when you cannot provide a large enough down payment by giving you access to additional financing.
If you save up for a down payment within your budget but then come across a dream home at a higher price point, you can decide to take on the second mortgage to stretch your budget.
When using a piggyback loan, you’ll meet the down payment requirements needed to avoid purchasing private mortgage insurance (PMI). Depending on the size of your loan and the percentage charged by your lender for PMI (typically between .58% and 1.86% of your loan balance), a piggyback loan may save you money.
Those planning to use a piggyback mortgage should consider the following potential drawbacks:
Second mortgages generally have higher interest rates than first mortgages, meaning there may be better borrowing options available. Alternatively, you can simply wait until you’ve saved enough for a minimum down payment before buying.
With two mortgage loans, you’ll need to pay two sets of closing costs. You’ll also need to plan for the additional administration required to track and pay two monthly payments. If you face financial hardship and fall behind on your loans, you must dig yourself out of a larger hole down the line. A second mortgage comes with additional risk, and you will need to adopt a strict payment plan to ensure you make your monthly payments.
To obtain a piggyback loan, you’ll need to qualify for additional debt. This translates into two separate mortgage applications and approvals. To approve a second mortgage, lenders may want borrowers with a higher credit score compared to applications for a first mortgage.
Before you apply for a piggyback loan, consider the alternatives:
If you’re not in a rush to buy, you can save for a larger down payment and avoid a secondary loan. If a family member offers to help out by gifting you funds, plan to provide your lender with a letter from the person gifting the funds confirming that the money was a gift and not a personal loan.
In some cases, you may opt to pay for PMI for a short time period rather than taking out a second mortgage. Once your mortgage loan balance falls below 80% of the home’s value, you can request your lender discontinue PMI. Depending on the PMI rate and the principal and interest rates associated with your mortgage, you may find that taking on the mortgage insurance costs less than the principal and interest you would have to pay for the piggyback loan.
Ask your lender about special programs for first-time homebuyers. You may qualify for additional tax credits, a lower interest rate, or down payment assistance which can help you avoid needing a second mortgage loan. Some first-time homebuyer programs cover most of your down payment, meaning you only have to contribute a small percentage to the purchase.
Piggyback mortgages can prove useful if you wish to acquire a home with a larger purchase price or speed up your buying process. If you’re interested in learning more about home financing options, it’s best to sit down with a lender and discuss which types of loans might work for you. Your lender will help review the costs associated with a piggyback loan and compare this option against other financing possibilities to find the most affordable solution.
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]]>Before you start the process of applying for a mortgage, it helps to gather your personal documents, like pay stubs, bank statements, and retirement plan balances. Lenders will want detailed information to substantiate the income and expense amounts you report on your application. If your lender requests tax information, don’t balk. Tax returns provide important insight into your finances and help determine if you qualify for a loan.
Lenders must evaluate your ability to make a monthly mortgage payment. This means that the borrower should earn enough income to cover the scheduled repayment of the loan over time after backing out household expenses and amounts owed for other obligations, such as credit card debt or student loans. Your loan application provides some of the information needed, but lenders will typically pull your credit report and also request additional paperwork, including recent tax filings.
The information received from all sources filters into a calculation of your current debt-to-income ratio. The amount of your proposed mortgage payment will also be factored into the calculation. This final ratio of debt to income generally needs to meet the lender’s benchmark to move forward with the mortgage process.
Tax returns also provide another source of identification and validation. During the mortgage application and approval process, you may also sign a 4506-T form. This form gives the lender permission to request an official transcript of the tax return you filed. The tax transcripts delivered from the IRS serve as an independent verification of information provided on your loan application. They also provide proof that homebuyers filed their tax returns.
The mortgage lending process often starts with a prequalification or a preapproval. A prequalification gives borrowers an estimate of how much they may be qualified for. This amount can help a house hunter set a price range when buying.
Alternatively, preapproval is a much more involved process. The lender will request information about your income, and they may also check your credit report. You may need to provide tax returns, along with other financial documentation, as part of the preapproval process.
The extra time required to obtain preapproval can help when you place an offer on a home. Sellers may prefer to work with preapproved buyers who understand the homebuying process and have already taken steps to secure a mortgage loan. When a seller accepts your offer to buy a home, the mortgage process continues, and buyers complete the loan application.
After the lender reviews your loan application, they will request additional information. The lender requests any remaining support needed to complete your application. A home appraisal will also be completed and added to the file during this stage of the process. Then, everything is forwarded to the underwriting department to determine if a borrower meets the lender’s standards to qualify for a loan.
When a lender requests copies of your tax returns, they typically want to see everything filed. Although the first two pages of Form 1040 provide a summary of your taxable income for the year, lenders may want to dig deeper. If you own a business or part of a business, they may request copies of company tax returns as well.
Lenders closely review specific line items to determine the amount of income they can factor into their loan qualification decision. Basically, they’re looking to substantiate the amount of income you plan to use to buy and pay for your home. Tax returns may also serve as verification of demographic information stated on your application form.
Don’t be surprised if your lender requests two years’ worth of tax returns, as income varies from year-to-year. The multi-year look helps to identify one-time events such as a large investment sale or one-time payment you received. Larger one-time items reported on your tax return that will not affect future earnings may be backed out of your income calculator for mortgage approval purposes.
The total amount of personal income reported on your tax return should match your W-2s and what was reported on your application. Because your various sources of income could change, don’t hesitate to ask your lender if you can provide additional information that would help you qualify. For example, a recent pay raise or a new source of earnings not reflected on your last return may help lenders make a decision.
If you own a business or part of a business, mortgage lenders will look not only at the gross income reported on your business return but also at your expense deductions. They want to understand your bottom line or the net profit from your business. This determines the available income you generate to pay non-business expenses, such as a mortgage.
Take note that your business income may be adjusted by lenders when considering your mortgage application. For example, depreciation expense can sometimes be removed from lenders’ calculations as the amounts reported on your tax return do not affect your current cash flow.
Schedule E of Form 1040 reports supplemental income and losses from activities such as investments in real estate, trusts and estates, partnerships, or S-Corporations. Income from these ventures also factors into your mortgage approval. If you own rental properties and report the profit or loss on Schedule E, the lender may request an additional document known as a rent roll—basically an overview of your investment properties—to help them determine the amount of money you’re spending to maintain your rentals compared to the amount of income you collect. Leases and other documents may also be requested to substantiate rental income.
As you work through the mortgage approval process, don’t hesitate to ask questions or offer additional information to support your application. Mortgage loans can make a significant impact on your monthly expenses and lenders want to see proof of your ability to keep up with the payments. Before lenders approve a new loan, they often need to perform an in-depth evaluation of your finances, including a review of your tax returns.
Mortgage lenders ask potential homebuyers for their tax returns to verify their financial background, ultimately helping them decide how much to provide on a mortgage loan. Lenders go through all portions of the most recent two years of tax returns to look through income and expenses, the story behind one-time payments, and finances related to business activities. Homebuyers can ask their mortgage lenders to provide extra information about
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]]>The post What Are the Tax Benefits of Buying a Home? appeared first on RealtyHop Mortgage Center.
]]>Taxpayers calculate the tax benefits associated with owning a home on Form 1040. If you itemize deductions on Schedule A, report expenses such as mortgage interest, points, and property taxes. To receive the benefit of itemized deductions in 2022, the total amount on Schedule A must exceed the standard deduction of $12,950 for single filers or $25,900 for married couples filing jointly.
Additionally, the IRS offers tax credits for homebuyers. Unlike tax deductions that lower your taxable income, tax credits are deducted from the total amount of tax you owe. They represent a dollar-for-dollar decrease in your tax bill at the end of the year.
Tax deductions decrease the amount of income subject to federal tax. A taxpayer with $100,000 of gross income who claims itemized deductions of $15,000 would owe federal tax on $85,000, assuming no other deductions or credits are applied. In a 30% tax bracket, the taxpayer would owe $30,000 in taxes on the $100,000 of income, while after deductions, they would owe only $25,500 of taxes or 30% of $85,000.
Homeowners can deduct the following expenses on Schedule A:
Each year, mortgage lenders prepare and send a Form 1098 to borrowers. This form documents the mortgage interest the borrower paid during the year. Taxpayers can then report the amount of mortgage interest paid on their Schedule A.
Generally, taxpayers can deduct the full amount of mortgage interest paid each year. But in some cases, the IRS limits the amount of deductible mortgage interest.
The following cases are examples of limits the IRS puts in place for mortgage interest deductions:
Mortgage points count as prepaid interest and are deductible for tax purposes. The method of deducting points can vary. In some situations, taxpayers deduct the total amount of points paid in the year of the home purchase. To deduct all the points up front, you must meet several IRS tests to determine if you qualify. If not, the value of the points amortizes over the life of the mortgage. If you amortize $1,000 in points on a ten-year loan, you will deduct $100 per year for ten years on your Schedule A.
Home buyers with a down payment of less than 20% generally pay for private mortgage insurance, or PMI. In the past, PMI has been deductible for tax purposes. Currently, the IRS has not determined if the PMI deduction will be extended for 2022.
Taxpayers can deduct up to $10,000 of state and local property tax expenses on their Schedule A. You can only report the amount of real estate property tax paid to a state or local tax authority, not the amount your lender withheld from your monthly payments for escrow. Due to the timing of mortgage payments or the amount of escrow required, your bank may report a different amount of property taxes. Use the official tax bill from your state or local municipality to support your deduction.
The IRS determines which of the costs related to homeownership are deductible. Some expenses cannot be deducted, such as:
Unlike a deduction, tax credits make a dollar-for-dollar impact on your annual tax liability. Because tax rules change frequently, homeowners should ask their tax advisor about newly available credits to determine if they qualify.
Mortgage credit certificates issued by state or local governments and agencies provide lower-income homebuyers with access to a federal tax credit to help them afford homeownership. Take note that this tax credit cannot exceed the tax owed. But if the credit exceeds the amount of tax owed in a given year, you can carry the excess amount forward to the next year.
The recent passing of the Inflation Reduction Act grants a tax credit for homeowners making an investment in energy savings upgrades. This includes new windows, doors, or added home insulation. The previous $500 lifetime limit has increased to a $2,000 limit per year and will take effect in 2023.
For 2022, tax credits are still available for energy-saving home upgrades, such as the installation of Energy Star-rated heaters and hot water heaters. If you’ve made any home upgrade in the past year, don’t forget to check about the possibility of a tax credit.
Additional tax benefits may be available for homeowners. If you run a business from your home or have invested in a clean energy system, you may qualify for tax deductions and credits.
Individuals filing a Schedule C to report profit or loss from a business may deduct certain expenses if they work from home, using the home office deduction. Although you can file for a home office deduction as a homeowner or a renter, you may have more qualifying expenses to report as a homeowner, including mortgage interest, utilities, and repair costs.
In 2022, the tax federal credit for installing a clean energy system, such as solar panels, rose from 26% to 30% of the installation costs. This increased credit percentage extends until 2032.
Some states offer additional tax credits, such as the new New York property tax credit for homeowners who pay property taxes in excess of 6% of their qualified gross income. New York also offers the STAR program, which offers rebates on school property taxes to qualifying homeowners.
First-time homebuyers may also take advantage of additional government programs and tax benefits.
Additionally, two new rebate programs passed as a part of the Inflation Reduction Act. These programs allow states to issue rebates to homeowners who make energy-saving upgrades or convert their homes to electric power. Look for more information on these programs in the coming year.
Buying a home is an investment, but it comes with a hefty price tag. Tax deductions and credits can help to ease some of the costs associated with homeownership and allow owners to spend more of their money on home improvements, repairs, and exciting features.
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]]>Mortgage lenders generate revenue from interest on loans. When mortgage loans pay off earlier than anticipated, the lender’s revenue generally decreases. Lenders use prepayment penalties to dissuade borrowers from paying the loan in full for a certain period of time. When early payoffs occur, the prepayment penalties offset the revenue that lenders lose in interest.
Generally, a prepayment penalty takes effect only when a borrower pays off a large amount of the mortgage in a single year. Lenders may limit the annual payoff amount to 20% of the loan. Some lenders may only charge a fee when the full balance pays off. Borrowers may typically add an extra sum each month to lower their principal balance without incurring a prepayment penalty. For example, if your monthly payment is $500 and you send $550, you might not be charged any penalty for paying off a mortgage early. It’s always best to ask your lender about a prepayment penalty prior to making an extra payment.
If your mortgage loan includes a prepayment penalty, it usually comes into play during the first three years. If you’re planning to pay off a mortgage in full, ask your lender or check your loan documents for information on any fees, including prepayment penalties, that you owe in addition to the outstanding loan balance.
Beginning in 2014, federal regulations limited the amount of prepayment penalties lenders may charge for newly-issued mortgages. Provisions in the new law included the following rules for prepayment fees:
According to the federal rule, lenders may not charge prepayment fees on certain non-qualifying loans, such as adjustable-rate mortgages. Loans issued prior to 2014 do not fall under the new laws and may assess prepayment fees differently.
Additionally, some states also have laws capping or restricting mortgage prepayment penalties. Examples of these laws include:
New York bans prepayment penalties on subprime mortgages.
Florida restricts prepayment penalties for high cost home loans.
California also restricts prepayment penalties on higher-priced loans. Lenders may only charge 2% of the balance for the first year and 1% in year two.
When applying for a new mortgage, take the time to read about any regulations that could apply to you.
Borrowers should discuss i mortgage prepayment penalties with their lender and loan documents should clearly disclose prepayment penalty details.. Either “hard” or “soft” prepayment fees may apply. A soft prepayment penalty only takes effect in certain situations, such as a refinance, but not when you resell your home. A hard prepayment fee applies in the event of any type of loan payoff.
Should you choose to pay off your mortgage early, read the fine print to ensure that you understand your prepayment responsibilities.
Considering all the fees and technicalities of paying off a loan before it’s due, you might wonder why someone would want to pay off their mortgage early. In reality, early payoffs occur for a number of reasons. When applying for mortgages, consider your personal situation and the chance that you might want to pay off the loan during the period when prepayment penalties are in effect. Borrowers may choose to incur a prepayment penalty under the following conditions:
Many borrowers refinance a mortgage to take advantage of lower interest rates. Some of the main reasons why refinancing makes sense include the following:
Some borrowers may strive to become debt free and own their home outright. Annual bonus payments, extra funds from a promotion at work, or cash received through an inheritance may be used to pay off a mortgage prior to the final due date. Homebuyers who can afford to pay off the remainder of their mortgage may find the cost of the penalty worth it to avoid future interet payments.
Payoffs may also occur when borrowers consolidate many loans to streamline monthly payments. They may also take advantage of lower rates in the process.
A job change, marriage, or other life event may prompt a homeowner to sell their current property and downsize, upsize, or relocate. When this happens, borrowers pay off their existing mortgage using the funds from the sale of their current home before buying something new. Whether the relocation is expected or unexpected, if this happens in the first few years after a home purchase, borrowers will also need to pay off their prepayment fees.
If you wish to avoid prepayment penalties, take a look at the different types of mortgage loans available. Compare interest rates and factor in the cost of a prepayment penalty to determine which option makes the most financial sense for you. If a lender provides you with a loan that has a penalty, you can ask for other options.
Types of loans that may include prepayment penalties:
Loans typically offered with no prepayment penalty:
Depending on a mortgage’s interest rate, loans with prepayment penalties may offer borrowers an advantageous financing opportunity if they’re in the position to pay off the remainder of their balance. If you believe the chances of an early payoff are low, agreeing to a prepayment penalty may help you secure a lower interest rate.
If your mortgage loan includes a prepayment penalty, it’s important to understand how to calculate the extra amount you’ll owe in the event of an early payoff. Some lenders assess prepayment penalties as a flat fee. Others will calculate the penalty based on a percentage of the loan balance.
When a prepayment penalty applies, check the timing. If you’re close to the end of the prepayment window, holding off on a payoff, when possible, may save money. If the mortgage payment requies a fee, include it in the amount needed to pay off the mortgage prior to writing your check and sending it to the bank or finance company.
Prepayment penalties help mortgage lenders recoup some of the future interest revenue they lose when a loan pays off before the final due date. Borrowers should weigh the cost of the penalty, their likelihood of paying off the loan early, and any other loan options available to them before moving forward and finalizing their home purchase.
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]]>The post Everything You Need to Know About Construction-to-Permanent Loans appeared first on RealtyHop Mortgage Center.
]]>Construction-to-permanent loans provide financing for homes that must be built from scratch or significantly renovated. A construction-to-permanent loan differs from a traditional mortgage based on the homebuyer’s need to finance the actual building of the home before the purchase.
During the work phase, contractors or builders receive lump sums, also called draws. After construction, the loan balance converts into a traditional mortgage loan, often without needing a second approval from the lender. While under construction, the borrower makes interest-only payments on their loan.
The streamlined features of a construction-to-permanent loan make it attractive to anyone looking to build and buy a home. Homeowners typically arrange their finances before any construction begins on the property. After construction wraps up on a new home, a construction-to-permanent loan transforms into a traditional loan.
There are two types of loans that finance the construction of a home: construction-only loans and construction-to-permanent loans. With a construction-only loan, the contractor or builder draws on the loan to complete the approved building project. Construction loans end when the construction wraps up, and the borrower pays the final balance. Should a homebuyer need to finance their home through a mortgage, they would obtain a conventional loan after construction.
Alternatively, a construction-to-permanent loan, also referred to as a construction-to-completion loan, provides funding to build and purchase a home. The initial construction loan typically shifts to a traditional mortgage at the end of the building process. It is usually easier to qualify for this loan because the mortgage lender can use the built house as collateral. In a construction loan, applicants must meet more eligibility requirements as the lender cannot use an unbuilt home as collateral.
Conventional mortgages use a built home as collateral if the borrower defaults on their mortgage payments.
Secured loans such as mortgages use the value of your home as collateral. Construction-to-permanent loans consist of the following components, and potential homeowners should consider the following when leaning toward this type of loan:
During the building phase of a construction-to-permanent loan, the borrower makes interest-only payments. Since mortgage loans require a monthly payment including both the principal and interest, borrowers can save money on future payments by making interest-only payments during construction.
Construction-to-permanent loans involve more risk during the building phase when the unfinished home represents the only collateral. Thus, construction-to-permanent loan rates generally outprice mortgage rates. These higher interest rates compensate the lender for the additional risk.
As of October 2022, conventional mortgage interest rates sit around 7%, meaning a construction-to-permanent loan interest rate can exceed this. High-interest rates can become a burden for potential homebuyers, meaning those considering a building or renovating their property should consider this additional financial risk.
Construction-to-permanent loans divide their term into two stages. The first term covers the time given to complete construction, generally anywhere from six months to two years. After building, the loan converts to a traditional mortgage, with a typical payoff, such as a fifteen or thirty-year term.
These loans are more advantageous than construction-only loans because they seamlessly transfer into the second stage and acquire a conventional mortgage term. This transition saves homebuyers the hassle of finding, applying for, and receiving approval for a second loan after construction completion.
Credit and income requirements are generally stricter for construction loans. The lender will request additional documentation, such as a completed building plan. Your lender may also ask to review your contract with your builder and any available cost estimates to support the number of construction funds requested.
Most lenders require that the potential home meet several requirements to acquire this loan type. Typically, homes must be an owner-occupied primary residence or someone’s second home. Some building types that do not qualify for this loan include townhouses, condos, and multi-family houses. Manufactured homes may qualify for construction-to-permanent loans.
If you’re considering building a home, it is worth your while to investigate your potential financing options thoroughly. Similar to any loan offer, construction-to-permanent loans come with their own set of pros and cons, offering the following benefits:
Homebuyers interested in building their own home can use a construction-to-permanent loan’s unique structure to take advantage of the streamlined financing approach. This type of loan caters explicitly to a build-and-buy situation, where other loans may not fit as well in terms of cost, timing, and payments.
Construction-to-permanent loans convert to a traditional mortgage using a one-closing structure. Unlike a construction-only loan, a construction-to-permanent loan allows homebuyers to close on one loan and simply their homebuying process. This saves time and hassle for buyers with a lot on their plates.
When using a construction-to-permanent loan, you’ll immediately know what to expect for your interest rates for both the construction period and the final mortgage. If you choose to wait and secure a separate mortgage, you’ll bear the risk of rising interest rates during the construction phase, leaving you with a larger bill to pay.
While still in the construction phase of homebuilding, borrowers only pay the interest on their loans. Paying off the interest helps decrease the principal amount before moving into the home.
While construction-to-permanent loans come with their own set of benefits, there are also some drawbacks that homeowners should note prior to moving forward with a signing. Consider the following:
Locking in terms with a construction-to-permanent loan gives you peace of mind. Still, you should also review other financing options to make sure you’re not missing an opportunity to secure better mortgage terms in the future. Homebuyers may be able to find a better deal when shopping around with other lenders. As with any financing process, homebuyers must research and review several options instead of going with the first thing they find.
Construction-to-permanent loans generally set a time limit for the fulfillment of construction. Supply chain delays, price changes of construction materials, or the decision to expand the scope of a building project may cause you to miss deadlines set by the lender. This could translate into additional fees or penalties. If this happens, you may need to renegotiate before moving forward with the next stage of your building project.
Construction-to-permanent loans come with more associated risk than a traditional mortgage, as lenders cannot use an existing home as collateral. Therefore, lenders may require homebuyers to meet more stringent requirements, such as paying a larger down payment or acquiring a higher interest rate.
It’s a good idea to calculate the cost of building and buying your home using several financing options before making a final decision.
If you’re considering acquiring a construction-to-permanent loan, take the time to talk to several lenders and a financial advisor about your options. Work with your builder to establish a solid construction timeline and ensure you understand the cost of building a new home. The more information you can bring to the table, the higher your chance of finding a lender that can offer you the best financing for your new home project. Construction-to-permanent loans provide a flexible financing option for those looking to build or renovate their home, making them a favorable choice amount homebuyers.
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