As stories about the falling foreclosure rates and a rebounding housing market fill the financial sections of newspapers, one big problem still exists: many prospective home buyers and existing homeowners don’t understand mortgage basics.
The real estate website Zillow recently posted a short quiz aimed at finding out how much people know about the process of getting a mortgage in anticipation of buying a house. The results were scary, but not surprising.
Zillow reports that, according to the quiz results, “One-third of home buyers surveyed are ill-prepared to get a mortgage." Those quizzed answered questions incorrectly about topics including down payments, interest rates, closing costs and refinancing. The less informed you are about mortgages when buying your home, the greater the chances you will run into financial trouble in the future.
I see this on a daily basis with my bankruptcy clients. I see people that have no idea what their interest rate is and how long they have to repay on their mortgage. Most don’t understand private mortgage insurance, even though almost all of them have it, and some don’t even know how many mortgage loans they have. Let me explain private mortgage insurance and what exactly a mortgage is in an effort to help you avoid some of the problems I've seen my clients experience.
Private mortgage insurance
As a requirement of most mortgage loans, if you don’t have 20% or more equity in your house (your house’s value exceeds your mortgage loan balance by 20% or more), you must pay for private mortgage insurance. Private mortgage insurance will pay money to your lender if you don’t make your payments and the home is sold at a sheriff’s sale after foreclosure. This helps to protect lenders from financial losses when the houses they finance don’t have much equity with which to protect their investment. Private mortgage insurance can add considerably to your monthly payments. The amount you pay for private mortgage insurance could be as little as $20/month or as much as $100/month or more depending on your lender and how much you borrowed. Also, don’t be fooled by the word insurance. This is different from a policy that you may obtain to pay your mortgage off if you die. You can never benefit from a private mortgage insurance policy, only your lender can.
Understanding your mortgage
Lastly, and most importantly, what is a mortgage? Almost everyone understands that if you don’t make payments on a mortgage loan, you can lose your house. However, many people think that the word mortgage only refers to the loan you get to purchase your home. On the contrary, you can have more than one mortgage at a time and if you don’t pay any one of those mortgage loans, you can lose your home. People often think that home equity loans and home equity lines of credit are not mortgages. That is not true. If you don’t pay your home equity loan or your home equity line of credit, the bank can foreclose on your home. I have even had clients who thought they were just getting a personal debt consolidation loan to pay off credit cards, only to find out years later that it was a mortgage!
To avoid this type of confusion, any time you get a loan, be sure to ask if it will be a mortgage loan. Also, be sure to pay attention to and understand what you are signing. In order to obtain a mortgage, a lender has to have you sign a document that will clearly have “Mortgage” printed at the top. Don’t blindly sign documents. What you are not reading could hurt you.
Whether you are thinking about buying a house or already own one, it is never too late to educate yourself about mortgage basics. Take the Zillow quiz at www.zillow.com/mortgage/quiz to find out where you might need to focus your learning. Once you answer a question, whether you get it right or wrong, Zillow will provide an explanation about the answer and some links to websites where you can learn more.
Taking a bit of time to educate yourself now could save you money in the future or could even save you from losing your home.