I became a first-time homeowner three years ago, and in the process I learned a lot about mortgages, many of which I found interesting and surprising. Here are 10 things you may not know about mortgages.
1. You can buy a house with 0% down. That's right, you can buy a house with no down payment at all. There may even be a government agency that will help with your closing costs. These options aren't available to everyone, but first-time homeowners and/or homebuyers of limited means should definitely do some research. Check out the Department of Housing and Urban Development website for more info. Here's a list of special programs offered in various states. For those of you who don't fit one of those categories, it's worth talking to a lender or mortgage broker about the loans that they offer. An "80-20" loan, for example, allows the borrower to take out a first mortgage for 80% of the purchase price and a home equity loan or line of credit for the remaining 20%.
2. Adjustable rate mortgages (ARMs) come in many varieties. You might think of an ARM, as I did, as a mortgage with an interest rate that goes up or down each year. Some ARMs do work that way, but consider this: If you're pretty sure you'll be staying in your home for just a few years, you can get something like a "5-1" ARM, where the rate is fixed for the first five years, then resets each year after that. While 30-year fixed mortgage rates can be as low as around 6.2% these days, 5-1 ARMs are in the 5.8% range. That might save you $100 per month -- $1,200 per year. There are 7-1 ARMs and 10-1 ARMs and many other related beasts, too.
3. Adjustable rate mortgages are generally limited in how much they can adjust each year. Naive renter that I was, I always assumed that ARMs were especially risky because if interest rates skyrocket over one or two years, your mortgage rate will also soar. Fortunately, I learned that ARMs typically have caps on how much rates can increase each year. (Still, over the long run, they can increase a lot.)
4. Small changes in interest rates can make a big difference. Imagine that you recently got a 30-year fixed mortgage on a $200,000 house at 7.2%, with a 20% down payment. That results in a monthly mortgage payment of roughly $1,086. You might not think it's worth refinancing now, with rates around 6.2%, but think again. The same kind of mortgage at that interest rate results in monthly payments of about $980. The difference per month? $106. (That's $1,272 per year.) If the closing costs on the refinance will be $2,000, divide that by $106 to see how many months it will take before you break even: 19. So if you're planning to live in your home for nearly two years, refinancing may well be worth it. Learn more about refinancing in our Refinancing Center.
5. Mortgage brokers can be very useful for many people. My uncle is actually a mortgage broker, but I'd never really discussed mortgages with him until I began house-hunting. In case you don't know, a good mortgage broker will advise you on what kinds of mortgages would best suit you, and will find you the best rate and deal that he or she can, searching through the loan products of many lenders. Of course, just as with many professions, there are conflicts of interest in the mortgage broker biz. One way to avoid that is to read up on the topic and to seek out ethical mortgage brokers. The Mortgage Professor's website is a good place to learn more.
6. Not everyone needs a mortgage broker. Mortgage brokers tend to be most useful when you've got some financial issues, such as a poor credit history. If you're closer to being a best-case buyer, though, you may not need his or her services. For example, if you've got a pristine credit report and plan to put at least 20% down on your new home, you may be able to call a few banks and ask for their best rates.
7. You might find even more attractive mortgage rates from your local credit union or online. For example, at the time of this writing, my local bank is offering 30-year fixed-rate mortgages for 6.875% (with no points), while Washington Mutual (NYSE: WM ) is offering a 6.77% rate. But a credit union to which I belong sports 6.5% rates for the same thing. If you don't belong to a credit union, you may be able to join one through a family member, your workplace, or an association to which you belong. The Internet is a great place to look as well. Via a search at Bankrate.com (Nasdaq: RATE ) , I found a 6.2% rate from Priceline (Nasdaq: PCLN ) Mortgage.
8. Some websites will crunch many interesting numbers for you. Here's a mortgage payment calculator where you can learn exactly how much of each mortgage payment will go toward the principal of the loan vs. interest. (This might be helpful, since the interest portions are deductible on your tax return.) In this example, only about $200 of your $1,200 monthly mortgage payment goes toward the principal in the first year (with, therefore, $1,000 being interest), compared with about $800 in year 25. We've got some nifty calculators here in Fooldom, too, such as one that will help you determine your mortgage-related tax savings.
9. Paying points on your mortgage may or may not be smart. Points are an extra fee you pay (or don't) when you close on your mortgage. They're expressed as a percentage of the loan -- so on a $200,000 loan, two points would cost you $4,000. By paying points upfront, you can often get a lower interest rate. That makes sense if you're pretty sure you'll be sticking with that home and mortgage for many years. If you're only planning to be there a while, skip the points.
10. The world of mortgages isn't a static one. Here's an intriguing, relatively new option -- portable mortgages. In 2003, E*Trade (NYSE: ET ) introduced mortgages that you can take with you, transferring them from one house to another if you move. You pay a small premium in interest rates for the privilege, but given that most people these days don't stay put for 30 or even 15 years, this option could well be worth it. I won't be surprised if additional lenders begin offering portable mortgages soon.
There's much more to learn about mortgage options. Wachovia (NYSE: WB ) , for example, has offered a mortgage designed for teachers. Merrill Lynch (NYSE: MER ) introduced blended-rate mortgages a while back, featuring advantages of both fixed-rate mortgages and ARMs. Freddie Mac (NYSE: FRE ) offers multifamily mortgages. Lots of lenders offer interest-only loans and other nontraditional mortgages.
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This article was originally published on June 30, 2003. It has been updated.
SelenaMaranjianowns shares of no company mentioned in this article.For more about Selena, viewher bioandher profile. Priceline is a Stock Advisor recommendation. The Motley Fool isFools writing for Fools.