Mortgage Must Dos - 10 Things You Must do Before Borrowing a Mortgage Loan

A typical mortgage loan in America lasts 25 years with the home being fully paid off in that time period. 25 years is a long period of time, therefore you want to have a mortgage loan that best suits your financial needs and lifestyle. Here we explain 10 things you must do before you take out a mortgage loan, in order to be successful in paying off your home and being financially sound.

1) Know How Much your Mortgage Payment will go Up

According to statistics, nearly half of homeowners who borrowed interest-only or Option ARM loans do not know when their loans will reset, nor do they know by how much their monthly mortgage payments will go up. That's one of the reasons why so many homes are being foreclosed in America in 2008. Option ARM and interest-only mortgages offer a low introductory interest rate that is lower than any other fixed-rate mortgage. However, after 2-3 years, the interest rate usually resets to a higher interest rate, thus forcing the borrower to cough up more money in mortgage payments. Here's an example of how a typical Option ARM mortgage resets:

Most 2/28 loans are tied to an Index called the 6 month LIBOR rate (London Interbank Offered Rate). The LIBOR rate is the rate at which European banks borrow and lend money to/from each other. Most ARM mortgages given to borrowers with good credit charged LIBOR + 2.75%. 2/28 loans will now reset to LIBOR + 6.25%. With current LIBOR rates hovering at around 4.6%, here's how the interest rate game works out:

That's a jump of almost 4% in interest rate! That means borrowers will have to pay hundreds or even thousands more dollars in their monthly mortgage payments. This obviously leads to thousands of sub prime borrowers defaulting on their loans. What's worse is that 2/28 loans reset once every 6 months with an increase of 3% interest the first time and 1% every time after that. Over the long run, interest rates on 2/28 ARM mortgages will just keep increasing, while many borrowers will have the same income. This obviously leads to a deficit in their household budgets, forcing them to default on their payments.

Here are some limits on Option ARM & interest-only loans that you should know about:

2) Stated-Income Loan? Do NOT Fall for These!

Stated-income loans are loans where you do not have to prove your incomes by submitting your pay stubs or W2 forms to the lender. If your mortgage broker tells you that he's setting you up for a stated-income loan whilst you have a regular job with monthly income, ask him why? This is because the broker will inflate your earnings and assets and get you a really expensive mortgage loan forcing you to take out tons of debt. The broker will obviously benefit with a larger commission paycheck but you will be forced to live with an expensive mortgage loan on which you will have trouble making monthly payments.

This is why stated-income loans have also come to be known as "liar loans."

3) Count child support and alimony as income

Lenders will count child support and alimony income as your regular income if you can produce proof and documents from the court system. Make copies of any child support deposits or checks you get so as to provide proof to the lender. Note however that if one of your children is about to turn 18, the lender will not accept alimony income as your regular income, as it will stop in the near term. The ages of your children as well as when their alimony income will stop will be written out in your court documents.

4) Buy Private Mortgage Insurance (PMI)

If you have a down payment of less than 20% on your home, you have to get Private Mortgage Insurance (PMI) that protects your lender from your defaults. This PMI could potentially add several hundred dollars to your monthly mortgage bill. To get your way around that, mortgage brokers often recommend two loans; a primary mortgage for 80% and a home equity loan for the remaining 20%. The home equity loan will serve as the 20% down payment clause and avoid you having to purchase PMI. This idea was sound when interest rates for home equity loans were like 5%, which matches to that of mortgage loans. However, interest rates on home equity loans now hover between 7% - 9%, which makes them a less popular deal. You would actually be better off buying PMI than taking out a home equity loan.

5) Expected Unexpected Expenses

If you have been renting for a while and buying your first home, you should await unexpected expenses such as lawn mowers not working or your toilet not flushing or a bucket of paint to paint your room. When you were renting, the landlord usually covered these expenses. However since you now own a home yourself, you will have to pay for these expenses. A good rule of thumb is to keep an average of $100 a month set aside for these kinds of expenses. Some months you might have to spend $300 to get that dishwasher replaced, some months you will have spent $0.

Also when purchasing a new home, ask the current owner to give you a whole year's utility bills including heating and hydro costs. This is because you might be surprised at how high the utility bills are when you move into your new home. To avoid surprises, ask for this information beforehand.

6) Get Pre-Approved

Before you start looking for a home and make an approval, you need to get pre-approved by a lender. You will have to fill out a form that states everything financial about your life including the down payment you have, how much you owe on credit cards, student loans, auto loans, etc. The lender will examine your statements, check your credit report and approve or disapprove your application.

It is important to get pre-approved because most real estate agents will not show you any properties unless you have that letter. Getting a pre-approved letter will avoid all the hassle, lessen your closing costs and what's best, the process is free!
Note: Do not settle for a "Pre-Qualified" mortgage because that means nothing. You have to be pre-approved, not pre-qualified!

Pre-Qualified means the lender did not look at your income/expenses, credit scores and does not really know much about you. Therefore, he could reject your application at any time.

7) Don't be Discouraged if you are Rejected

One in every 4 mortgage loan applications are rejected. A government survey reports more than 29% of mortgage loan applications were rejected in 2006, up from 27% in 2005. To improve your chances of getting a good mortgage deal, follow our 7 step strategy in our article <Want a Mortgage Loan? Get Pre-Approved!"

8) Save the Deal when your Lender goes Bankrupt

You're already into the 2nd week of your mortgage loan processing when the lender files for bankruptcy! Here's how you save your deal.

i) Call them up and ask if they will proceed with your current mortgage deal. Even when lenders stop taking in any more mortgage orders, they might fulfill those mortgage orders that already exist in their system and for those borrowers that are approved (with good credit).

ii) If they will not proceed with your current mortgage deal, ask if they will transfer your mortgage to another company. If they will, call the new lender right away and transfer all the fees that you have paid to the old lender to the new lender. Some of these fees might include:

- Application fees
- Credit check fees
- Appraisal fees
- Processing fees
- Lien search fees
- Origination & discount points

iii) If none of the above happens meaning the current lender declines your mortgage while it won't transfer to another mortgage company, ask the seller of the house to extend the closing date so that you can search for a new mortgage loan. Usually sellers will honor serious buyers who are committed to buying a home, so they will definitely fulfill your requests.

9) Knowing How Much Mortgage You can Afford

So you want to buy your first new house. But how much of a mortgage loan can you really afford? This affordability question is one of the most crucial questions you must ask yourself; if you want to have a successful mortgage deal where you can afford the monthly payments and avoid any chances of foreclosure or your home being taken away from you.

All this depends on your annual income versus your annual costs. If you keep your mortgage loan in line with your annual income, you should have no trouble writing that check every month; or else you will dread every check you write.

i) Housing Costs

Your mortgage loan costs including the pricipal owing balance, interest, taxes, closing costs + home improvement fees should not exceed 28% of your annual gross income. By gross income, we mean the income you earn before income taxes are deducted.

ii) Debt Obligations

Your other debts including any student loan payments, credit card debt, auto loans, child support payments etc should not exceed 36% of your annual gross income. Want to see how you fair? Select our 28/36 mortgage calculator <get calc from http://mortgages.interest.com/content/calculators/earn-home.asp> to determine how much of a monthly mortgage payment you can really afford.

10) Get 3 Quotes for Home Insurance

Because your home is served as collateral for the mortgage debt you are taking out, lenders will require you to set up insurance for your home before closing the deal. You should know that home insurance premiums have been skyrocketing over the last few years. According to the National Association of Insurance Commissioners, the average cost of insuring a home grew from $593 in 2002 to $668 in 2003 to $729 in 2004. Here's a tabular layout of home insurance prices in 2004 in various US states, starting with the most expensive:

Texas - $1362
Louisiana - $1074
Oklahoma - $991
Florida - $929
Mississippi - $907