Mortgage Basics

Understand These Mortgage Basics to Make You a Savvy Homeowner and Real Estate Investor

There are many different types of mortgages out there. As savvy homeowner or real estate investor, you need to understand mortgage basics. The more you understand how mortgage works and the types of mortgage available, you’ll have more options in financing your purchase.

If you’ve been alive the last couple of years, you’ve probably heard a lot about Fannie Mae and Freddie Mac on the news in relation to the real estate bubble burst in 2008.

Who are Fannie Mae and Freddie Mac?

Fannie and Freddie are not real person. Just as Uncle Sam is not real.

Fannie Mae is nickname for Federal National Mortgage Association and Freddie Mac is nickname for Federal Home Loan Mortgage Corporation. They are both government agencies that purchase home loans from banks.

Watch this video from Wall Street Survivor, which will explain the mortgage basics in a nutshell.

Here…I’m going to discuss the most simple and common types of mortgages or home loans available to finance a home or investment property purchase. Just so you can get some ideas to start with. There are many more different types of mortgages and creative strategies to fund a home or investment property purchase.

You'll find them under Hawaii Hard Money Lenders and Hawaii Private Money Lenders.

There are generally 2 types of homes loans or mortgages: CONVENTIONAL and NON-CONVENTIONAL

Ok…here’s the true story.

After a bank closes on your mortgage, they’ll turn around and sell your mortgage note to Fannie Mae or Freddie Mac. That is the reason why banks have to follow the guidelines from Fannie and Freddie, such as minimum 20% down payment, debt to income ratio of less than 43%, etc.

That's "conventional mortgage" in a nutshell. Plain vanilla loan.


Low Down Payment Loans

FHA Loans - 3.5% down payment for owner-occupant

Fannie Mae HomePath Home Loan - 3% down payment for owner-occupant, 10% for investor

100% Financing or 0% Down Payment Loans


VA Loan

With any low- or no-down-payment home loans, you, the buyer, has to be aware of Private Mortgage Insurance.

Fixed vs ARM You’ve seen banks everywhere advertising their “fixed” and “ARM” home loans.

Exactly, what are they?

Fixed rate mortgages is when the rate of the mortgage is “fixed”. With a fixed rate mortgage, the interest rate you pay is the same every year as long as you have the mortgage.

The ARM or Adjustable Rate Mortgage, on the other hand, gives you flexibility in the interest rate. Usually you have the option for the mortgage rate to be fixed for a certain number of years initially, after that the rate will follow the market rate, which may be higher or lower than your initial fixed rate.

An adjustable rate mortgage is also known as a "variable-rate mortgage" or a "floating-rate mortgage".

Related article: What is Annual Percentage Rate (APR)

Prequalifications vs Preapprovals

With a prequalification, your assessment to purchase a mortgage or home loan is based solely on a verbal conversation. There’s no credit check, which can lead to a less accurate assessment of how much home you can afford.

On the other hand, when you get a documented preapproval, you’ll know exactly what you can afford and how much since a credit check is part of the process. You can then shop for a home with a realistic budget in mind.

Amortization vs Simple Interest

Understanding how amortization works for the bank and knowing the difference between amortization and simple can save you loads of money in interest payment. And you’ll also understand why you shouldn’t refinance your mortgage.

Amortization is the process of paying off your mortgage with regular payments over time. You pay the same amount every month for 15 or 30 years, depending on your loan terms. In the beginning of your loan, you’re paying mostly interest, and very little of your payment goes to the principal. As the time goes by, you pay less and less interest and more toward principal.

If you only plan to be in a home short term, it is important to remember that you will owe a majority of the principal when you go to sell since you pay more interest in the beginning.

This is the exact reason why you should NOT keep refinancing your home loans. Each time you refinance, you reset the clock to the beginning. The 30 year starts again. Then you end up paying mortgage interest forever, and never get to pay down your principal. People always think refinancing to a lower rate mortgage will save them money. It is not true.

If you want to pay off your mortgage fast, make additional or larger payments each month helps save money in the long term. Specify that you want the additional payments to go towards your principal balance. Be sure there is no prepayment penalties by paying off your mortgage sooner. The prepayment penalty can eat up all your interest savings.

Related article: Pay Off Your Mortgage in 7 Years

Another way to pay off you mortgage quickly is with a home equity line of credit or HELOC

Well…this is a good time to introduce the concept of simple interest. I love simple interest as a borrower.

Simple interest is how credit card companies figure out how much you owe. Bank uses this same concept to calculate your interest in your savings account, and HELOC.

Simple interest is calculated on a daily basis. If you pull one of your credit card statement out, and look at the back, you’ll see different rates that your credit card company charges you. One of the rate is a daily rate, which maybe 0.0004%. Your interest on your credit card balance or HELOC balance is calculated on a daily basis. The lower your daily balance the lower your rate, which gives you the incentives to pay down the balance as soon as possible.

With a HELOC, you save on loan interest, pay off your principal sooner and you have a line of credit that is available also as your emergency fund.

Related article: Home Equity Line of Credit

Fannie Mae HomePath Home Loan

The Fannie Mae HomePath Loans used to be one of the best loans out there, until Fannie Mae announced that the mortgage program was to be discontinued as of October 7, 2014.

Fannie Mae HomePath Loan is a mortgage program that allows a borrower to purchase a Fannie Mae-owned property with a low down payment, flexible mortgage terms, no lender-requested appraisal and no mortgage insurance.

The Fannie Mae HomePath mortgage requires a minimum down payment of 3% (versus 3.5% required for an FHA loan) and 10% down for investors or second-home buyers.

Anyone can apply for HomePath mortgage. You don’t have to be a first-time home buyer. Investors and seond-home buyers are allowed too. Remember these are foreclosed homes owned by Fannie Mae. Basically, these are the same a bank-owned or REO properties. Fannie Mae just want to get rid of them fast and get their cash back.

By providing their own mortgage, Fannie Mae made it easier for people to qualify for a mortgage and sell their properties faster.

Because Fannie Mae HomePath homes are technically foreclosures, many do need some TLC. Fannie Mae also offered the HomePath Renovation Loan in Hawaii for borrowers to purchase properties that require little to adequate renovations.

Both the purchase and renovation amount are wrapped into one single loan. The maximum loan amount for moderate renovation is up to $35,000 in repairs or up to 35% of the after rehab value.

Benefits of Honolulu Fannie Mae HomePath Mortgage

• Lower down payment with flexible mortgage terms. 3% down payment is required and the source of funding can come from a gift, a grant, or nonprofit organization; 10% down payment for second homes or investment properties.

• No mortgage insurance is required in most cases and HomePath Loans allow flexible mortgage terms, including; fixed-rate, ARMs, or the interest only payment feature.

• You can use Fannie Mae HomePath loans to purchase a primary residence, investment property, or a second home.

• No appraisal required. Fannie Mae usually allows up to 97% financing available for primary residences and up to 90% for Second Homes and Investment Properties.

• You can buy 1-4 unit properties. And options are available for borrowers who have more than 10 financed properties. Great choice for real estate investors.

• Both the purchase loan and renovation loan are wrapped into one easy loan.

I think Fannie Mae HomePath Loan is a perfect loan available given all the benefits listed above. Unfortunately, it is no longer available.

However, you can still buy discounted HomePath Homes in Honolulu. Click here for available HomePath Homes.