Real Estate Financing

Very rarely will someone pay for a piece of property the full sum upfront, after all, who really has that amount of money readily available, unless you’re in that elite realm of the super rich.  This is why the vast majority of individuals seeking to purchase real estate will have to acquire some sort of real estate financing.  

If you have found that perfect piece of property and you have successfully negotiated a deal with the seller, then you will have laid down a down payment on the property, which is usually anywhere from 5 to 25% of the property sale price.  Real estate financing, usually in the form of a loan or mortgage, is often used to make up the difference between the purchase price of the property and the down payment.  Generally, financing can usually be made available through a bank or other financial institutions. 

Mortgages and home loans are legal documents that pledge a property to the lender (bank or other financial institution) as security for payment of a debt by the buyer.  Payment to the loan/mortgage is determined by the amount borrowed; the payment plan; the interest, which is calculated by the lender according to current mortgage rates; and the type of property you have purchased. 

Real estate financing can be a complicated process so it’s important to explore every available lender and financing option before committing to anything.  After all, this may be the biggest investment in your life, so the type of financing you choose will greatly affect your financial status for at least 15 years of your life, if not more.  So it is imperative that you make sure you are getting a plan that you can financially handle with an institution you can trust!  Just like any other major investment, it is always a good idea to shop around for lenders.  This way, you can compare rates and financing terms to be sure that you obtain the mortgage/loan that is best suited for you.  When you are trying to decide on a lender, especially if you are a first time buyer, you may want to ask about special programs available.  Some financial institutions offer programs for first-time homeowners and people with low incomes so be sure to explore all available options. 

Types of Lenders 

Mortgage Bankers - any company that assembles then sells loans, is considered to be a mortgage banker.  Countrywide Home Loans and Wells Fargo Mortgage are two of the nation’s largest mortgage bankers.  These lenders are big enough to create loans and pools of loans, which they sell directly to lending institutions.  Examples of lending institutions that buy loans and pools of loans from mortgage bankers include Fannie Mae, Freddie Mac, and Ginnie Mae.  Mortgage bankers can vary significantly when it comes to size. Some mortgage bankers service the loans they originate, but some do not. Most legitimate mortgage bankers have wholesale lending divisions within their company.

Mortgage Brokers - a mortgage broker (individual or company) is an intermediary that facilitates the loan process between a borrower and lender.  The job of the broker is to put borrowers and lenders in contact with each other.  If this contact results in a loan, the broker receives a commission, often from both parties.  Prospective borrowers will typically hire a mortgage broker, who essentially does the work of finding the right type of loan for the borrower.  This can be analogous to a real estate buyer’s agent, who works on behalf of the buyer to shop around for different homes, except they are shopping around for different loans.

A mortgage broker will evaluate the different types of mortgages available, and provide insight and advice as to which banks or financial institutions offer the most competitive rates and the terms most compatible with your particular situation.  An advantage of brokers is that they are very knowledgeable about their respective field, and can often acquire specialized mortgages rather than the standard 15- or 30-year mortgage.  It is important that you read review all the types of loans available to you, so you can adequately review it for yourself.  Companies that act as mortgage brokers often will have loans available and will broker them to wholesale lending institutions, since they already have established relationships with borrowers.  

Wholesale Lenders - offer loans to mortgage brokers at a reduced cost than their retail branches offer them to the general public.  The mortgage brokers will then usually add their own fee to the loan amount.  For the borrower, this means that their loan will cost pretty much the same if they had got it from the broker directly or from the retail branch of the wholesale lender.  The advantage of going with the broker is that the broker will be able to help you get the optimal type of loan suited for your current situation.  This is usually beneficial for first time buyers or those unfamiliar with real estate financing.  More experienced borrowers may be able to negotiate directly with the wholesale lender.  Most mortgage bankers and portfolio lenders are also wholesale lenders. 

Portfolio Lenders - Many banks and large financial institutions have the ability to create their own loans.  By doing this, these institutions can establish their own guidelines for approving or rejecting loan applications.  These institutions have their own portfolio of loan possibilities and do not sell them on a secondary market.  Like mortgage bankers, they may offer fixed-rate loans and government loans.  After the borrowers have been making payments on the loan for a period of time, the loan becomes saleable on the secondary market.  The Portfolio Lender may then decide to sell a loan in order to make the money available for funding other loans.

Financing Evaluation  

In order to receive real estate financing, you will have to make an appointment with a lender, who will assess your financial status, which will inevitable determine the type of loan you will receive.  Before applying to any lender for real estate financing it is important to adequately prepare yourself so that you look like an attractive borrower, which will result in better financing conditions. 

Save as much money as possible – the more money you have means the more secure you are, which will go a long way when lenders evaluate your credit.  Also, another obvious benefit of having some money saved up is that you can make a larger down payment.  By putting a larger down payment, it will mean that you will require less financing and ultimately this will allow you to pay less to lenders in principle and interest over the years.  The more money you are able to save, the more attractive you become to lenders, and the better chance you have of being approved for financing.

Make sure you have good credit standing – be sure to pay of as much of your bills as possible.  Something as simple as not paying your water or credit card bill on time each month can drastically affect whether or not you are offered financing.  Logically, lenders will be suspicious of whether you’ll be able to handle playing hundreds (or even thousands) every month in your mortgage/loan payments when you have trouble paying of a fifty-dollar cable or telephone bill.

Job Security – having a steady job is also quite important for lenders since it is indicative of your financial security.  This will play a large part in whether you get approved for financing or not.  Understandable, most lenders will be careful to offer a loan to someone who may be in and out of a job, or have recently just gotten a job.  Lenders may ask you to add a co-signer, who will agree to make payments should you not be able to.   

Be realistic in how much you can afford - knowing how much financing you can afford to borrow is essential because borrowing too much can mean making payments to your lender for the rest of your life.  Before applying for financing it is a good idea to plan out a budget and assess how much you can afford to pay towards a home loan or mortgage each month.

Generally when you apply for financing the lender will ask you how much you want to borrow and determine how much to give you based on the value of the house or property you’re investing in (this will be determined by a real estate appraiser) and your finances. Typically a lender will give you 80-90 percent of the appraised value of your house and they will expect the rest as a down payment on your home loan or mortgage.  Loan/mortgage payments to a lender should not add up to more than 28 percent of your gross income, so make sure the house or property you are looking at is actually within your price range and that your payments won’t be through the roof.

Interest Rate 

The interest rate is probably the most important figure to get from a potential lender.  A good interest rate can make all the difference when it comes to buying real estate.  Low interest rates often allow buyers to have greater flexibility in their budget, and often times, will allow them to pay off their mortgages more quickly over a shorter period of time because they are manageable.  Conversely, high interest rates can keep a buyer in debt for decades.

The interest rate is the rate of return a lender gets for allowing the borrower to use their money.  Interest rates are normally expressed as an annual percentage of the amount loaned and is usually calculated by lenders semi-annually.  All interest rates are directly influenced by the economy in terms of inflation, the principles of supply and demand, Consumer Price Index, Gross Domestic Product, and Employment Cost Index. 

Though interest rates are largely affected by economic conditions, each borrower’s financial situation can also significantly influence the individual rate they are offered by their lender.  These factors include the amount of down payment paid for the property; the length of mortgage; any potential risks the borrower poses to the lender; and whether the loan is a first or second mortgage.  Generally if a borrower has good credit, is able to put down a substantial down payment, and this is their first mortgage, then they will usually be offered a lower interest rate, since they pose less risk to the lender. 

Interest rates are often influence by whether the borrower will opt for fixed or adjustable-rate mortgages.  Most lenders offer both fixed-rate and adjustable-rate mortgages so it is important to look into the positives and negatives of each option.

When interest rates are low, most borrowers will opt for a fixed-rate mortgage since they are assured a low rate for the duration of the mortgage.  If interest rate is high, then most people will opt for an adjustable-rate mortgage, although this can be a bit of a gamble since your interest rate may rise higher with greater economic growth.  However, if interest rates fall, then you will be in position reap the benefits for your mortgage.  It is also essential to ask potential lenders when you can lock in your interest rate because these rates can change during the course of time you take to pay off your mortgage.

In Closing 

You have decided on your lender and you have been approved of a financing plan that you think is ideally suited for yourself.  It will likely take a week or two to complete the financing transaction.  The closing is the final step involved in applying for home financing.  The closing procedure involves the borrower signing all necessary mortgage documents and paying closing costs so that the property can be transferred into their name.  That property is yours now!!!

Although home financing in the form of loans and mortgages is a common among real estate purchasers, it is important to remember that the loan is a privilege not to be abused.  Financing can be the key that opens the door to your new home, but it can also leave you locked out in the cold if you are unable to deal with it responsibly.