925 HBS students are graduating this spring and many of you will be looking to purchase homes for the first time. It is going to be hard to leave the cocoon of HBS and re-enter the big, bad real-world that includes things like 14-hour work days, paying off your Citi-Assist loans and, oh yeah, mortgages.
If you haven’t shopped for a mortgage before, or if it has just been awhile, let this primer give you an overview of the basics. . .
Categories and Types
There three basic categories of loans:
1. Conventional – non-government loans up to $300,700 for the year 2002 (the limit changes each year)
2. Government -loans insured by a government agency such as the FHA or the VA.
3. Jumbo – loans greater than $300,700
Within these categories, there are three main types:
1. Fixed Rate – loan with fixed interest rate for the entire term. 30, 25, 20, 15 or 10 year terms available.
2. Adjustable Rate Mortgage (ARM) – Loan starts as fixed rate then adjusts at a specified point (For example, rate adjusts after 10 years for a 10/1). Rates are adjusted based on a standard rate index, typically the 1-year Treasury. There is a cap on how much the interest rate may increase. Several different types are available (10/1, 7/1, 5/1, 3/1 and 1/1). An ARM makes sense for people who know they will only be in there home for a limited period of time.
3. Balloons – A loan with regular monthly payments that amortize over a fixed period then require a balloon, or lump, payment at maturity. Only available with Conforming loans.
Which category and type you choose will depend on the size of your loan, your current financial situation and how long you expect to be in your house. Most financial advisors will tell you to put the minimum amount down for the long-term so that you can put any excess cash into investments.
Direct Lender vs. Broker
Deciding where to get your loan can be almost as confusing as figuring out your terms. You basically have two choices: a direct lender or a broker.
A direct lender is a bank or a retail mortgage company. You may choose to go with direct lender because of their solid reputation, but be aware that you could end up paying for that reputation in the form of higher interest rates and higher origination fees. Additionally, some direct lenders can be inflexible and offer a limited range of plans.
Alternatively, you may choose to work with a mortgage broker who deals with multiple lenders. With a broker you can often find: a range of plan options, lower interest rates, and lower origination fees. Additionally, an independent broker is more likely to provide responsive service. On the flip side, be careful which broker you choose. Some adhere to business practices that are less than ethical.
First-time Buyer
A first-time homebuyer can get a loan for up to 103% the value of your home. Before you begin the mortgage process, take some time to get your finances in order. When you are being reviewed for the loan, these are the things that matter:
o Credit scores
o Assets
o Ratios
With ratios, the standard rule is that your principal, interest, taxes, insurance and mortgage insurance should not equal more than 28% of your monthly income or 36% of your overall monthly debt.
Referrals from your Real Estate Agent
Many of you will use a Real Estate agent to find your house. While agents can be a great source of information for certain things, you should not rely on their referrals for lenders or lawyers. Often their recommendations will not yield the best rates or lowest fees.
Online Resources
There are some great online resources for mortgage information. But the Internet should be used just for that – information. You can browse rates and research your lenders, but most experts do not recommend completing the entire mortgage process online. With the amount of personal information you must provide to get your mortgage, the threat to your privacy is still too great.
Two of the best sites for mortgage information are Bankrate.com and monstermoving.com.
