Understanding Mortgages

  • A mortgage is the type of security instrument most often used in connection with loans for the purchase or improvement of real estate.  The document is usually recorded in the public record and becomes a lien on the property.  There are two parties to a mortgage: the mortgag"or" is the property owner and the mortgag"ee" is the lender. (Words ending in "or" denote the party giving, "ee" the one getting.) When the mortgagee loans money to the mortgagor, the mortgagor signs a promissory note for the amount of money borrowed, and "gives" a mortgage to secure the debt. The mortgage is a written instrument that secures the loan by encumbering the title to the property. In most states there will also be a deed of trust or warranty deed executed as a part of the mortgage paperwork. 

    A mortgage requires a contract between two parties, so the conditions contained in the mortgage must be agreed to and sealed by both parties in order for the contract to be valid. Those conditions are likely to include mortgage assignments; assumptions; the lender's ability to declare the mortgage due on any sale of the property, and assignment of rents in the event of default on the note.

    Interest rates, terms, fees and closing costs vary widely between lenders so it is always wise to shop for the one that will give you the best deal. The difference between the highest and lowest rate you are quoted could affect your cash flow by substantial amounts. The traditional roll of local lending institutions and mortgage brokers, has been undergoing a major change since the early 1980s. Now they often act only as agents to create and or service the loans they write, while their long-term mortgages are packaged and sold as investment instruments.

    Investors Pay More

    Rental property mortgages have historically been higher risk loans, so mortgage insurance underwriters limit the number of non-owner occupied mortgages they will insure for individual borrowers to five. Additionally, real estate investors do not have the interest rates, terms or down payment options that are advertised and available to home buyers.

    Types of Mortgage

    A fixed rate mortgage is one in which the interest remains the same for the term of the loan.
    Adjustable Rate Mortgages (ARMs) have interest rates that are tied to some kind of financial index, usually U.S. treasury notes. That results in mortgage interest rates that can vary over a specified range, and usually mortgage payments that adjust as well.  Competition among lenders has resulted in a great many real estate financing options.
    Choosing between a fixed and variable/adjustable rate mortgage can be difficult and depends somewhat on your investment comfort level. There are many real estate lenders to choose from. They include credit unions, savings and loan associations, commercial banks, mortgage bankers and mortgage brokers.

    Escrow or Impound Accounts

    Property taxes become a lien on real estate when past due and therefore affect the security given for a mortgage loan. Causality and flood insurance are also important to a lender because their security could be damaged or destroyed. Consequently, many lenders require that a portion of the cost of property taxes and insurance be collected with each mortgage payment and placed in special account to pay the bills as they become due. The taxes and insurance portion may, therefore, affect the amount of a fixed term payment as property values rise and insurance rates fluctuate.