The home price is the cost of the property that the homebuyer decides to purchase. Home price varies by location, size of the home, and land, as well as the quality of the home and improvements made to the property. Home prices also fluctuate with the real estate market. The price of the house will determine the mortgage loan amount as well as the down payment.
A down payment is a percentage of the value of the home that is made upfront in a lump-sum cash payment. The down payment when purchasing a home varies depending on the price of the home and the financial ability of the homebuyer to pay. The standard down payment percentage is 20%, however, certain loans allow for a down payment much lower than that, in some cases as low as 0% (VA Loan) or 3.5% (FHA Loan).
Interest rate, also known as a mortgage rate, is the rate of interest that is charged on the mortgage. The interest rate on a home loan can be fixed or variable, fluctuating with the current mortgage rates. Mortgage rates will vary for each borrower as they are heavily influenced by the homebuyer’s credit profile. As mortgage rates fluctuate with the real estate market, you can refinance your loan at a lower interest rate at a point in the loan term.
The loan term is the number of years you will be making your monthly mortgage payments towards your loan. The loan term may change during the loan life depending on whether the buyer decides to refinance the loan, make additional payments, or make more than the minimum monthly payment. Loan terms depend on the lender, interest rate, and the preference of the home buyer.
Property taxes are paid by the owner of a home or property and are collected by the local government to fund services such as law enforcement, highway construction, and education. Property taxes are based on the value of the property including the land. Property taxes are calculated by the local government where the home is located.
Home insurance is a type of property insurance that covers the losses and potential damages that your residence may face. The homeowner insurance, similarly to car insurance, provides liability coverage in case of an accident that may impact the residence or property. This type of insurance covers both the exterior damage to the property as well as damage to the interior and assets such as furniture. Home insurance is not the same thing as Private Mortgage Insurance and they serve different functions.
Homeowners Association Fee, typically referred to as HOA fee, is a sum of money paid monthly by homeowners in certain types of properties such as condominiums and townhouse residences. These fees are collected to offset the cost of maintaining the building, facilities, and common areas such as a pool or fitness center. Some HOA fees even cover garbage disposal and utilities such as water and sewer fees. HOA is also required to have reserved funds for emergency high-cost expenses such as roof repair or potential property damage from a natural disaster.
If the buyer decides to put down less than the standard 20% down payment recommended, they are required to purchase Private Mortgage Insurance (PMI). Private mortgage insurance is a percentage of the loan amount. When a buyer decides to have a down payment lesser than 20% the loan to value ratio is higher than 80%, therefore presenting a higher risk for the lender. PMI reduces that risk for the lender. Homeowners are required to have PMI until they pay off 20% of the value of the property.
Loan-To-Value is an assessment of lending risk that lenders use to determine whether or not they will approve the mortgage loan for a potential home buyer. Loan assessments with higher LTV ratios are considered higher risk and may include higher interest rates for the homebuyer. Lower LTV means that a higher down payment was made and therefore the risk of the buyer defaulting on the loan is lower, resulting in lower interest rates. LTV is calculated by taking the mortgage amount and dividing it by the appraised property value.
The principal is the actual balance of the loan excluding any interest payments, taxes, or insurance. It is the original amount that was borrowed from the lender and had interest applied to it as well as other costs of borrowing such as taxes and PMI. The principal will be the amount of money you must pay until the loan is completely paid off, however, due to the amortization schedule, the initial payments are directed towards the interest before they are to the principal.
Interest is the number one cost of borrowing and is calculated at a percentage of the principal amount of the loan. Due to the fact that interest compounds, the majority of the initial payments are applied towards the interest rather than the principal balance. This causes homebuyers to apply extra payments to their loan, to decrease the compounding of the interest and reduce the sum of the loan they will pay.
Principal, interest, property taxes, and home insurance (PITI) are the sum four components of a monthly mortgage payment. Together they make up what homebuyers would traditionally refer to as their mortgage. PITI is used by both borrowers and lenders to determine the affordability of a property for the homebuyer. If the PITI amount is considered too high when compared to the monthly household income, the borrower is considered high credit risk and may not be approved for the mortgage loan.