• Mortgage 101 Understanding How Mortgage Works

Mortgage 101: Understanding How Mortgage Works

What every home buyer and property investor should know

You can’t just jump into getting a mortgage if you don’t fully understand what it is. You’ll be locking in a good amount of your earnings for a long time, after all. To summarise, a mortgage is an agreement that lets you borrow money from a lender under certain conditions. A common condition is that the lender takes the title of a property you own until you pay.

What is a Mortgage

What is a Mortgage?

Do you still have trouble understanding what a mortgage is and how it works? Consider the following situation:

  • Suppose that Mr Smith wants to buy a new beachfront home. The property is worth $1,000,000, but he only has $400,000 at the moment. However, he knows that he makes enough money to make gradual payment on the property.
  • Upon careful consideration of his finances, he then decides to get a mortgage. He borrows money from a bank with the beachfront property as collateral, and the bank then lends him money. In his deal with the bank, he agrees to pay the $400,000 he has and lets the bank take care of the remaining $600,000.
  • Mr Smith spends a certain amount of his earnings on paying the debt for the next 15 years.

In this scenario, while Mr Smith pays he can already live in the property he bought. However, he still doesn’t have full ownership until he fully pays the loan to the bank.

Important Terms

You also need to know some terms to fully understand what a mortgage really is. Some of these include:

  • Down payment: This is the amount that you put down when you get a mortgage. In the example of Mr Smith, his down payment was $400,000.
  • Principal balance: This is the amount that you borrow from the lender, not counting your own down payment. In the example above, this is borrowed money ($600,000) Mr Smith used to initially pay for the beachfront property.
  • Interest rate: You also need to pay a certain amount of interest to the lender in order to borrow money. This is the interest, also sometimes just called the rate. In the case of Mr Smith, the payments that he makes cover the interest as well as the principal.
  • Regular payments: These are the payments to the bank which cover the principal and the accrued interest. Again, in the example, this is the amount that Mr Smith pays over time.
  • Collateral: This is the asset that acts as insurance for the loan. If you cannot pay the debt within a certain time, then the lender can seize the collateral. In many cases, the collateral is the property itself that is being purchased. In the example above, the beachfront property was the asset that was bought and used as collateral.

Two Scenarios: Completing the Payment and Foreclosure

Mortgages commonly end in two ways — either by having the debt repaid or by foreclosure.

  • Completing the payment: When you complete the payment of a mortgage, congratulations are in order. The property is now fully yours, and you won’t have to worry about that mortgage again.
  • Foreclosure: If you fail to pay within the terms of the lender, then foreclosure is likely to happen. This then means that the collateral will be repossessed, with the lender taking ownership.

Getting a mortgage means you have the option to either complete the payment or default on it. The latter comes with serious consequences. Foreclosure is something that you don’t want to have happen, so always pay on time. Don’t waste your hard-earned money.

Mortgage Tips

Mortgage Tips

Are you thinking of applying for a mortgage? Here are some tips to increase your chances of being accepted:

1.      Make sure that your credit report is accurate.

Lenders always check your credit history when they evaluate you as a potential mortgage client. As such, it is crucial to make sure that your credit report is accurate. Even if you’re not applying, doing checks on your credit report can help you spot mistakes and correct them.

2.      Improve your credit score.

The credit report is not the only credit-related factor that the lender will look at. Your credit score is equally as important since it is a good indicator of your capacity to pay. The higher your credit score is, the more likely you are to get your mortgage. It’s not just the chances of getting approved — a good credit score can even get you better rates. Improve your credit score by doing the following:

  • Paying off debts regularly
  • Reducing your debts
  • Paying your bills on time
  • Maintaining low credit balances

Many of these are also reflected in your credit report. However, your credit score gives an overview of these factors in one glance. Be sure to have a good credit score for a great first impression of your account.

3.      Pay off existing debts.

Aside from your credit score, a lender will also look at your debt history. Specifically, your debt-to-income ratio, which is the proportion of your debts and earnings, will play a role. The less debt you have relative to your income, the better. This makes it more likely the lender will approve your mortgage application.

4.      Go for the highest deposit you can afford.

A large deposit for your mortgage is a good sign that will definitely influence on your lender. This shows you have a higher capacity to pay, making it likely for your application to be approved. It also makes you more likely to get a better interest rate. This is great since it leaves you with a smaller amount to pay off in the long run.

Let Arnold Property Help You

Property-Related Matters Can Be Quite Overwhelming. Let Arnold Property Help You.

It’s important for you to educate yourself before you apply for a mortgage. Luckily, an experienced real estate agent can help you navigate these confusing waters. At Arnold Property, we have a close-knit team that genuinely cares about you and your goals in life. Contact us at (02) 4969 2600 to know more about how we can guide you in buying, selling, renting, or leasing a property in Newcastle.