Description of a Mortgage
It’s not rocket science, yet getting a mortgage and understanding mortgages can be mind-boggling. The description of a mortgage is simple: A long-term loan that a borrower gets from a bank, thrift, independent mortgage broker, online lender or even the property seller. The house and the land it sits on serve as collateral for the loan. The borrower signs documents at closing time giving the lender a lien against the property. If that borrower doesn’t make payments as agreed, the lender can take the home through foreclosure.
Because mortgages are such large loans, the borrowers pay them off over long periods – usually 15 to 30 years. Their monthly payments gradually whittle away the principal balance, slowly at first, then more quickly towards the end of the loan.
When escrow is used, a monthly mortgage payment is called a PITI payment. That’s because each one covers a portion of the following four costs: principal, interest, taxes and insurance. Principle is the balance of the loan, interest is the interest owed on that balance, taxes are the real estate taxes paid that are assessed by government agencies to pay for school construction, fire department services, etc. Insurance is the insurance coverage bought by the borrower against theft, fire, hurricanes and other disasters.
Borrowers can choose to pay their real estate taxes and insurance in lump sums when they come due, rather than in monthly installments to their escrow accounts. Depending on the kind of mortgage a borrower has, the monthly payment may also include a separate levy for private mortgage insurance (PMI) or government-backed mortgage insurance premiums.
The breakdown of each payment (the amount that goes toward principal, interest, etc.) changes over time because mortgages are based on a repayment formula called “amortization.” That’s a fancy term meaning the lender spreads the interest you owe on the mortgage over hundreds of payments so that the overall loan is as affordable as possible.
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