How to find a good mortgage

A loan secured by real property is a mortgage loan. It many parts of the world, the mortgage loan is the most commonly used way to obtain enough money to purchase real estate, including homes for private use.

In most jurisdictions, the lender has the right to force a sale of the collateral (the real estate used as security for the loan) if the borrower fails to keep up with the payment schedule for the mortgage loan. Money from the sale will then be used to repay the loan. A mortgage loan is therefore seen as lower risk for the lender than an unsecured loan, and you can usually negotiate better conditions when you take out a mortgage loan than when you obtain some other form of loan. Generally speaking, real estate is seen as a safer type of collateral than collateral consisting of non real estate, e.g. a boat.

How easy it is (legally and administratively) for a lender to force a sale due to the borrower's failure to keep up with the payment schedule varies from one jurisdictions to another, and this will typically impact both interest rates and how easy it is to be approved for a mortgage loan. There are for instance countries where it is illegal or very difficult for a lender to force the sale of a home that's the primary residence of a family, and this will of course mean that lenders are hesitant to approve mortgage loan applications from someone who needs the loan to purchase a primary residence.

A good credit score helps you get the mortgage you need to buy your dream house.

In countries where it is very easy for a lender to force the sale of mortgaged real estate, lenders are more willing to approve mortgage loan applications, at least as long as they believe that the real estate will retain its value or increase in value. In the extreme end of the spectrum, lenders can be willing to approve almost any application, even if the applicant has no income or where the income is very low in relation to the monthly payments. This can drive up the number of forced sales, since people purchase real estate that they can't actually afford to own.

Non-recourse lending

In some jurisdictions, mortgage loans are non-recourse loans. This means that if the forced sale of the mortgaged real estate doesn't bring in enough money to cover the debt of the borrower, the borrower is not legally obliged to pay for the discrepancy.

Example: Mr Smith has a mortgage loan on his house. Principal + monthly payments that he hasn't made + late fees + additional administration fees = $734,000. The lender forces a sale of the house. Sales price minus costs associated with the sale = $642,000 that are used to repay the lender. Since this is a non-recourse loan, Mr Smith has no duty to repay the $92,000.

The opposite of non-recourse loan is a mortgage loan where the borrower is legally obliged to pay the discrepancy to the lender if the sale of the mortgaged real estate doesn't bring in enough to repay the full amount owed. In the example above, Mr Smith would owe the lender $92,000 and the lender could for instance elect to go after other assets owed by Mr Smith to get this money back. Of course, these $92,000 are now an unsecured debt since the real estate that served as collateral has been sold.

In jurisdictions where mortgage loans are non-recourse loans, the risk of real estate depreciation is shouldered by the lender, and not by the borrower. This can translate into higher interest rates and more restrictive lending practices, especially when it comes to the loan-to-value ratio. The lender wants there to be a bigger margin between the size of the loan and the market value of the real estate, so that a small future dip in real estate value wont cause a situation where the market value of the collateral isn't enough to cover the size of the amount owed.

Fixed rate mortgage loan (FRM)

In the United States, the fixed rate mortgage loan is very common. With such a loan, the interest rate is fixed for the term of the loan. (If the borrower is able to to negotiate a better interest rate in the future, a process called refinancing is utilized where the old mortgage loan is payed off with money coming from a new mortgage loan.)

The typical fixed rate mortgage loan is the United States will have a repayments scheme where the size of the monthly payment doesn't change during the life of the loan. Other solutions are available however, such as the linear payback scheme that starts out with big monthly payments and then gradually shifts over to smaller and smaller payments until the mortgage loan is payed off in full.

Adjustable rate mortgage loan (ARM)

The adjustable rate mortgage loan (ARM) is very common in Europe, where it is also known as floating rate mortgage loan or variable rate mortgage loan.

The interest rate is not fixed for the duration of the ARM loan. However, having an interest rate that is allowed to go up and down on a daily basis is unusual as well. Instead, the interest rate is typically fixed for a certain amount of time (e.g. 12 months) and then renegotiated.

Ceteris paribus, an ARM loan will usually have a lower interest rate than a FRM loan, since the lender doesn't risk being stuck for years with an interest rate that is much lower than the current market rate.

Interest only mortgage loan

For a classic mortgage loan, your monthly payment will consist of two parts: one part is interest and other other part is amortization. For each amortization you do, you pay down the principal of your loan. This is true for both fixed-rate loans and adjustable-rate loans.

Example: You make a $500 payment to the lender. $355 of this is interest, and $145 is amortization. The principal will now decrease with $145.

An alternative to this is the interested-only mortgage loan. With such as loan, your monthly payments to the lender is interest only. There is no amortization and the principal will not decrease in size. When the life-time of the loan is over or when you sell the mortgaged real estate (which ever happens first), you have to pay the lender the principal in full in the form of one single repayment.

This type of mortgage loan is typically offered in areas where the lenders believe that the price of real estate will be stable or increase. They expect to get the principal back when the real estate is sold, or that the owner of the real estate will ask to refinance when the life-time of the original loan is over.

Since the principal never goes down throughout the life-time of this type of loan, the lender will be paying more interest than if the loan was gradually amortized.

Interest-only loans are unusual in areas where mortgage loans are non-recourse loans.

Investment-backed mortgage loan

If you get an investment-backed mortgage loan, you will be required to make regular contributions to an investment plan. The idea is that your investments will grow, and when it is time to repay the loan, they will be large enough to cover this expense.

With most investment-backed mortgage loans, the borrower makes regular interest payments to the lender but does not amortize at all to get the principal down.

No amortization and no interest payments

There is a type of mortgage loan where you make no monthly payments at all. Each month, the interest is added to the principal instead. This means that the size of the loan grows quickly due to the impact of compound interest. When the real estate is sold, the loan must be paid back in full in the form of a lump sum.

This type of loan is typically marketed to older real estate owners who do not have any liens on their real estate. They can borrow a lump sum from the lender, and not have to worry about making monthly payments. This can be especially appealing for someone with a small pension who would find it difficult to fit monthly payments into the budget.

The owners of the real estate can stay in their home for as long as they like, and not repay the loan until they elect to sell. Sometimes, this means that the sale will not take place until the owners have died or moved to a nursing home.

This type of loan offers the homeowners a solution where they can spend their home equity without actually having to sell their home and move away. It can for instance make it possible to realize a life-long dream upon retirement, to pay for medical care costs, to carry out renovations, to help out grandchildren with university expenses, or to just add some extra cash to the monthly budget instead of scraping by on a meager pension.

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