Is your house your castle? Or a monkey on your back?
Your answer might depend a lot on your mortgage. Getting an affordable property at a great rate can make you feel as if life couldn’t be any sweeter.
But ask anyone who bought a house with a mortgage they didn’t understand and couldn’t afford, and they will likely tell you their house has brought them nothing but frustration and tears.
If you’ll be in the market for a new place soon, make sure you avoid the following six mortgage mistakes.
1. Not reviewing your credit first
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You’ll need your credit score to be in great shape if you want the best terms on a mortgage.
At least six months before you go to your first open house, you need to go to AnnualCreditReport.com. That’s the official site to get free credit reports issued by the big three reporting agencies: Experian, Equifax and TransUnion. You’re entitled to one free credit report from each agency annually. You want to identify and correct any errors in those records before you apply for a mortgage. (A 2013 study by the Federal Trade Commission found 5 percent of consumers had errors on their reports that could result in less favorable loan terms.)
In addition to your credit reports, it’s also critical that you check your credit score. Some banks and credit cards now offer the most widely used credit score, the FICO score, as a monthly perk for their customers. If your bank or card does not, check out this article, which offers seven other ways to get that all-important number for free.
If you find your credit score simply stinks, you can try these tips for raising it fast.
Bottom line: Spend the time to get your credit in the best possible shape so that you can get lenders’ most favorable terms.
2. Failing to get pre-approved
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The next mistake you can make when applying for a mortgage is failing to get pre-approved.
Getting pre-approved by a bank for a given loan amount is one way to avoid the heartbreak that comes from falling in love with a house that is way out of your range. It may also give you an edge if yours is not the only offer for the same property. A seller will feel more confident selecting a bid from someone with a mortgage pre-approval rather than from a person who hasn’t begun the process.
However, don’t get carried away by whatever pre-approval amount you receive from the bank. Remember, what the bank thinks you can afford and what you can actually afford may be two different things. A lot of people lost their homes in the Great Recession because banks gave them loans they couldn’t pay back. Don’t make the same mistake. Check out “Stop and Think: How Much House Can You Really Afford?”
Also don’t mistake getting prequalified for a loan for being pre-approved. Getting prequalified involves a cursory look at your assets to give you an idea of your qualifications for a mortgage. Being pre-approved requires an in-depth assessment of your financial picture and credit, which allows the lender to give you the specific amount for which you are approved.
3. Not shopping around for the best rate
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The Consumer Financial Protection Bureau says nearly half of mortgage borrowers don’t shop around, and that’s a big mistake. Seasoned shoppers search for the best deals on soap, furniture and cars, but some fail to look for a better mortgage rate.
It may be convenient to use your primary bank for a mortgage, but that could also be expensive if its rates aren’t competitive. If you play around with a mortgage payment calculator like this one provided by Bankrate, you can see the savings possible from a seemingly small difference in the interest rates. For instance, on a 30-year fixed rate mortgage of $200,000, for every 0.25 percent you can reduce your interest rate, you save about $28 a month. Over a 30-year period that can add up to a lot of extra cash.
A good place to start comparing mortgages is the Money Talks News Solutions Center.
4. Ignoring mortgage fees
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While you’re investigating rates, don’t forget the fees. Many mortgages come packed with fees of all kinds. Some — such as your county recording fee — are likely fixed, but others are negotiable.
Before your closing, you should be provided with a good faith estimate of the fees. Ask your lender to review what they are for and then see if you can negotiate a lower price. These are a few of the fees likely to have the most wiggle room:
- Loan origination fee
- Application fee
- Broker fee
- Underwriting fee
5. Saving too little for a down payment
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Not having a down payment stashed away can sink your prospects for getting a mortgage. After being bitten by the housing market crash, traditional lenders shy away from giving mortgages to those bringing nothing to the table.
According to Zillow, you generally need to have a down payment of between 5 and 20 percent to qualify for a conventional loan. And if you put down less than 20 percent, be prepared to pay for mortgage insurance. Premiums for private mortgage insurance (or PMI) “can range from $30-70 per month for every $100,000 borrowed, Zillow says. “So, if you bought a home with a value of $300,000, you might pay about $150 per month for private mortgage insurance.”
6. Not understanding your mortgage terms
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Underwater mortgages weren’t the only problem homeowners faced during the Great Recession. An untold number of people also lost their houses simply because they signed on the dotted line without understanding what the heck their mortgage entailed.
For example, people thought they’d hit the jackpot with adjustable-rate mortgages, known as ARMs. Homeowners were fine for the first few years while their mortgage rate was fixed and low. But when it reset to the current market rate, that affordable monthly payment suddenly wasn’t so affordable.
A 2008 report from the Federal Reserve Board found that more than 75 percent of the subprime loans issued from 2003-2007 before the housing market crash were “short-term hybrids” that worked like ARMs. By 2008, more than 21 percent of these subprime loans were seriously delinquent.
The moral of the story is to always understand what you’re signing up for. It’s not enough to know what your monthly payment is today. You also need to ask if the interest rate can change and, if so, when and by how much it will increase.
If you’re not comfortable with the loan terms or don’t understand them, it’s better to walk away than to make an expensive and potentially life-altering mistake.
What’s your experience with borrowing to buy a home? Share with us in comments below or on our Facebook page.