If you are acquiring or refinancing a mortgage for a home, vacation home, or other property, it’s helpful if you are familiar with the terms listed below.

Types of Mortgages

A mortgage is a secured loan that allows the lender to assume ownership of the property if the borrower fails to make the regularly scheduled payments. They are several different types of mortgages, which are shown below.

Adjustable-Rate Mortgage (ARM):

A secured loan in which the interest rate is periodically adjusted based on the current market interest rates of a financial index. Also known as a variable-rate mortgage. The amount that an ARM can increase each year and over the life of the loan is generally subject to a cap, such as a 2% annual cap and a 5% lifetime cap. With an initial interest rate that is normally lower, this type of mortgage may be advantageous to someone who is expecting to resale the property within a few years.

Assumable Mortgage:

A secured loan that allows a buyer to assume the mortgage payments of the seller. While they are now relatively rare, they can be advantageous if interest rates have risen since when the seller first obtained the mortgage. The disadvantage is that a large down payment is normally required, as the buyer must cover the cost differential between the loan balance and the current purchase price.

Balloon Mortgage:

A secured loan that offers lower monthly payments over the life of the loan, in exchange for a large lump sum or “balloon” payment at the end of the loan. This type of mortgage is more common in the commercial real estate market than the residential real estate market and typically has a term of three to ten years. The disadvantage is that if the buyer cannot pay off the balloon loan in full at the end of the term, the loan must be refinanced which incurs additional financing costs.

Blanket Mortgage:

A secured loan that covers two or more properties. It is typically used by builders or developers to buy a large tract of land, after which individual lots can be sold without retiring the entire mortgage. Instead, only a portion of the blanket mortgage is repaid each time a lot is sold.

Construction Mortgage:

A secured loan that is used to finance the construction of a home. Also known as a construction loan. While the home is being built, the borrower typically pays only the interest on the amount that has been actually disbursed to the builder. Once the home is completed, depending on how the loan was structured, the loan either converts to a regular mortgage or it must be paid off in full with a new mortgage.

Conventional Mortgage:

A secured loan that is not insured by the Federal government but meets the funding criteria of the government chartered Fannie Mae and Freddie Mac enterprises. Since the lender assumes more risk with a conventional mortgage, the buyer is subject to stricter credit and income requirements.

FHA Mortgage:

A secured loan that is insured by the Federal Housing Administration. A FHA mortgage requires a smaller down payment than that for a conventional mortgage, which allows those with fewer financial resources to purchase a home. The disadvantage is that an upfront mortgage insurance premium is added that is equal to 1.75% of the base loan balance.

Fixed-Rate Mortgage:

A secured loan for which the interest rate does not vary over the life of the loan. The length of the mortgage typically varies between 10 and 40 years, with 15 year and 30 year fixed-rate mortgages being the most popular. For buyers that intend to stay in their house for many years, the fixed-rate mortgage is the safest option, as it prevents the monthly payment from rising throughout the life of the loan, except for increases due to taxes or insurance premiums.

Interest-Only Mortgage:

A secured loan that initially offers lower monthly payments (typically the first five to ten years) by paying only the interest on the mortgage. After that the payments increase to cover both the principal and interest. The advantage of this mortgage is that it allows a buyer who is expecting significant salary increases to afford a larger home. The disadvantage is that unless the home appreciates in value, the buyer does not build up any equity in the home. And if the home decreases in value, the buyer may be unable to refinance the home.

Jumbo Mortgage:

A secured loan that exceeds the loan limits set by the two U.S. government chartered corporations Fannie Mae and Freddie Mac. As of October 1, 2011 the loan limit was $625,500 in high cost areas and $417,00 in lower cost areas. The interest rate on a jumbo mortgage is generally higher than that for a conventional mortgage as it can be more difficult for the lender to quickly sell a luxury residence in the event of a default.

Reverse Mortgage:

A loan in which a lender gives the homeowner money as a lump sum, as a regular monthly payment, as an equity credit line, or a combination of all three, in exchange for ownership of the property at the end of the loan term or full repayment with interest. Designed primarily for retired people who own their homes, a reverse mortgage gives a homeowner, who is 62 years or older, an additional source of income. Note that the loan term may be less than the full length, if the last listed borrower permanently leaves the home, dies, or sells the home.

Second Mortgage:

A secured loan that is subordinate to another loan on the same property. Should the borrower default, the lender who owns the first mortgage must be paid in full from the property liquidation sale before any proceeds are used to pay off the second mortgage. Since a second mortgage is riskier for the lender, it generally carries a higher interest rate. However, since the interest rate on a second mortgage is normally lower than unsecured consumer debt, it is sometimes used to consolidate credit card debt or for a business loan.

Two-Step Mortgage:

A secured loan with a fixed interest rate for typically the first five to seven years, after which the interest rate is adjusted based on the current market interest rate. The advantage is that the initial monthly payments are normally lower. However, should interest rates increase, the borrower can be subjected to a large increase in their monthly payment at the end of the fixed-rate period.

VA Mortgage:

A secured loan that is guaranteed by the U.S. Department of Veterans Affairs. To be eligible one must be either an American veteran or a surviving spouse that has not remarried. With a VA mortgage the monthly payment can be up to 41% of one’s gross monthly income verses 28% for a conventional mortgage.

Wraparound Mortgage:

A form of seller financing, in which the seller issues a mortgage that exceeds the amount and interest rate of the original mortgage. With the payments received from the borrower for the wraparound mortgage, the seller continues to make payments on the original mortgage. Should the borrower default, the seller has the right to foreclose on the property.

Closing Costs

Closing costs are the additional charges, taxes, and fees that must by paid by the buyer when a mortgage is refinanced. The good news is that when purchasing a home, some of these items, such as the title search, documentary stamp tax, and realtor’s commission are normally charged to the seller.

Except for the application fee or the credit report and appraisal fees, which are generally non-refundable, the other listed closing costs do not have to paid until the mortgage loan is finalized and signed at closing. Note that some of the listed fees are mutually exclusive. For instance, if an attorney handles the closing and you are charged an attorney fee, you shouldn’t also be charged a closing fee by the title company. You also generally shouldn’t be charged both an application fee and a credit report and appraisal fee. If you find out otherwise, you should research your available options before proceeding.

Note that if one has good or excellent credit, in exchange for a slightly higher interest rate, it may be possible to refinance a home with limited or no out of pocket closing costs. While the charges still exist, except for the escrow required for property taxes and insurance, the lender or mortgage broker pays for the closing costs. Although this website is not an affiliate of Amerisave, my wife and I have had several good experiences refinancing our mortgage through them. However, be aware that if your home appraises for less than the amount required to refinance your mortgage, you will either need to reduce the refinance balance by paying more out of pocket or walk away and lose your credit report and appraisal fees.

For additional information on closing costs, see “A Consumers Guide to Mortgage Settlement Costs” at http://www.federalreserve.gov/pubs/settlement/, the Wikipedia entry for most of the items listed below, or search Google as I have done for each of the entries below.

Application Fee:

A typically non-refundable fee that is charged by the lender to process the loan application. While not all lenders charge this fee, a quick search of the web revealed loan application fees that range between $250 and $750.

Appraisal Fee:

The cost to obtain a written report that estimates the market value of the property based on comparable sales data and building costs. The real estate appraisal is normally performed by a licensed professional and typically costs between $250 and $450.

Appraisal Review Fee:

The cost for the lender to review the professionally prepared appraisal while verifying whether the loan should be issued. If charged, this fee generally ranges between $75 and $150.

Attorney Fee:

If state law requires an attorney to handle the closing, it is the fee charged by the attorney for performing the real estate transaction. The typical fee ranges between $400 to $800, but can be more for complicated or high-value transactions.

Closing Fee:

If state law does not require an attorney, this is the fee charged by the title company or escrow company for handling the real estate closing. The typical closing fee is $250 plus $2 for each $1,000 financed or purchased. For instance, the closing fee for a $200,000 mortgage would be $250 plus $400 for a total of $650.

Courier Fee:

A charge that covers the cost of delivering the real estate loan documentation to the courthouse, lender, title agency, or closing attorney. Typically, this fee is around $30.

Credit Report:

An upfront fee to retrieve your credit history and credit score. If more than one person is on the loan, such as a husband and wife, then a credit report is obtained for both individuals. An excellent credit report can make a dramatic difference in the mortgage interest rate as well as your out of pocket closing costs. The typical cost for the credit report is between $15 and $60.

Document Preparation Fee:

The charge for collecting and assembling the mortgage closing papers, which typically runs from 100 to 200 pages, due in part to all the new government requirements. If billed separately, the typical fee ranges between $50 and $150.

Documentary Stamp Tax:

A tax levied by many states on the value of the mortgage note. For instance, in Florida where the documentary stamp tax rate is $0.70 per $100, on a $200,000 mortgage the tax is $1,400.

Down Payment:

The amount that the buyer must pay upon taking ownership of the property. To avoid the extra cost of having to buy private mortgage insurance on the loan, a down payment of 20% is normally required. So if the purchase price is $300,000 the down payment required to avoid private mortgage insurance is $60,000.

Escrow:

Money accumulated and held in reserve by the lender or mortgage loan servicer to pay for property taxes and insurance. To ensure that the property taxes and insurance are paid, most mortgage lenders include a pro-rated portion of these fees in the monthly mortgage payment, which then gets deposited into an escrow account.

Flood Certification:

The fee charged by an independent third party to determine whether the property is located in a government designated flood plain. If the home is located in a flood plain, to get the loan approved flood insurance is required. Note that flood insurance is not required if only a portion of the property is in a flood plain and that portion of the property has no buildings or other structures on it. The typical fee for the flood certification is between $10 and $25.

Home Inspection:

The cost by a trained or licensed inspector to verify that the home is in good repair. Typical items inspected include the overall structure, roof, basement, flooring, plumbing, electrical, and the heating and cooling systems. Provided that nothing unusual is noted on the appraisal, the mortgage refinance lender may not require a home inspection. The typical cost is $300 to $500.

Loan Origination Fee:

A fee that is charged by some lenders to cover the cost of processing a loan. In the United States, it is typically between 0.5% of the 1.0% of the mortgage amount. For instance, if the rate is 1% and the mortgage amount is $250,000 the origination fee is $2,500.

Notary Fees:

The fee charged by a state licensed official to certify your identity when signing the real estate documents. Since most closing attorneys or title companies have a notary public on staff, there may not be an additional fee. If charged, notary fees vary by state. In California, they can be no more than $10 per signature, but if the notary public has to travel to where the documents are signed; the notary fees will usually range between $100 to $200.

Points:

A lending fee in which each point is equal to 1% of the loan amount. For instance, one point on a $150,000 loan would be $1,500. According to IRS topic 504 on Home Mortgage Points (see http://www.irs.gov/taxtopics/tc504.html), within certain limitations points are tax deductible as they are considered prepaid interest. By paying points up front, a lower interest rate can often be obtained. But this needs to be weighed against the time required to recover the upfront cost of the points. If you are planning on moving within the next few years or believe that it may be possible to refinance at a lower rate in the future, then you are better off with a slightly higher interest rate that avoids points.

Prepaid Insurance:

It is the interest on the property that accumulates from the day of closing until the beginning of the next month. It is dependent upon the initial loan balance, the interest rate, and the day of the closing. For a $200,000 mortgage at 3% interest (0.25% per month), and a closing date that is on the 15th of the month, the prepaid interest is approximately $250.

Prepaid Property Taxes:

Money paid into an escrow account in advance for future property tax payments. The amount depends on how soon property taxes are due. If property taxes are paid annually and are due within 60 days, the full amount will be required, otherwise a calculation is made and a partial payment is due. While this money comes out of your pocket, for a refinance, this is generally a wash, as a few weeks after closing you will get the remaining escrow back from your old mortgage.

Recording Fee:

The fee charged by the city or county to record the mortgage note. The fee is dependent upon where you live but the typical range is between $50 and $200.

Realtor’s Commission:

While not applicable to a refinance, if the buyer is purchasing the property from a licensed realtor, the seller normally pays a fee that is equal to 5% to 7% of the purchase price. For instance, if the selling price is $350,000 and the fee is 6% the realtor’s commission is $21,000. If two realtors are involved, one representing the buyer and one representing the seller, the commission fee is split between their two offices.

Survey:

The cost to verify that all buildings and improvements to the property are within the property’s boundaries and that no buildings, driveways, fences, etc. of an adjoining property encroach. When refinancing the property, the lender may not require a new survey, if a previous survey exists and no improvements have since been made. The cost of a survey is highly dependent upon the size of the property, it’s shape, the topography, and the vegetation. For instance, a square quarter-acre subdivision plot on flat cleared land is relatively easy to survey as compared to forty acres with many angles and sides that is on a hilly and heavily wooded site. For a simple survey, the range is $100 to $600.

Termite Inspection:

Officially known as the Wood Destroying Insect Inspection Report, it is the fee charged to verify that no wood-boring insects have caused damage to the buildings on the property. To satisfy the reporting requirements, a termite inspector must visually inspect the accessible areas of the home or buildings, including the attic and crawlspace, for signs of live insects, dead insects, or past infestation. The termite inspection report fee typically ranges between $75 and $250 and does not include the cost of treatment if termites are found.

Title Insurance:

Insurance that protects the property from lawsuits that dispute the legal ownership or a previously unknown lien against the property. There are two types of title insurance, lender and owner. The first protects the lender against claims and the second protects the owner against claims. While lender’s title insurance is normally required to obtain the loan, owner’s title insurance is not. If the legal status of the property is clearly known and one has lived on the property for a number of years without an ownership claim or unknown lien, the risk associated with not buying owner’s title insurance when refinancing is relatively low. According to one Better Business Bureau website, the typical cost for lender’s title insurance is $2.50 per $1000 and $3.50 per $1000 for the owner’s title insurance.

Title Search:

The cost to search the past public records and verify that the recorded property title is accurate and is free of any legal claims, such as unpaid taxes, that could affect ownership. Sometimes this fee is included as part of the title insurance fee or the closing attorney’s fee. If billed separately, the typical range is $250 to $500.

Transfer Tax:

A fee charged by a state, county, or city upon the transfer of title from one party to another. In Georgia and Florida, the transfer tax is also known as the document stamp tax and it is applicable to a refinance as well. The following table from the National Conference of State Legislatures lists the real estate transfer taxes for various states: http://www.ncsl.org/issues-research/budget/real-estate-transfer-taxes.aspx.

Underwriting Fee:

The charge for determining whether your income, assets, and liabilities confirm to the lenders requirements for the loan. The underwriting fee includes employment verification, an analysis of your credit report, your bank and retirement account balances, your down payment source, and whether any new lines of credit have recently been opened. While this fee is often included as part of loan application or loan origination fee, if it is billed separately, the typical range is $300 to $600.

Wire Transfer Fee:

The fee charged for electronic transferring your closing settlement payment to the destination bank. For domestic transfers (those within the United States), the typical charge is $20 to $30.

Mortgage Payment

Your monthly mortgage payment is normally composed of PITI, or Principal, Interest, Taxes and Insurance, as described below:

Principal:

The amount remaining to be paid on the loan if the balance were to be paid in full today. Note that the actual payoff amount may be slightly higher than the principal balance due to the interest that may have accrued since the last monthly payment. For a $200,000 mortgage, the initial principal is $200,000. In the early years of a thirty-year mortgage, very little principal is paid each month, while in the latter years the majority of the monthly payment goes towards principal.

Interest:

The amount paid each month for the use of the lender’s money. For instance, if the remaining principal balance is $160,000 and the interest rate on the loan is 6%, each month 0.5% percent of current principal balance, or $800, is paid as interest. In the United States, the mortgage interest on the first one million that was borrowed can be deducted on Schedule A.

Taxes:

The portion of the monthly payment that goes to state and local governments for police, fire, schools, and other services. It is based on the appraised value of the property, with the millage rate (the tax rate expressed in tenths of a cent per dollar of property value) dependent on the state and locality.

Insurance:

Protects the lender and buyer from a loss should the property be partially damaged or completely destroyed. Common perils that are normally covered by property insurance include fires, earthquakes, tornados, and sinkholes. However, flood damage from a hurricane or a torrential downpour usually requires a separate insurance policy.

Private Mortgage Insurance (PMI):

It protects the lender from a loss, should you default on the mortgage payments and the value of the property is less than the remaining loan balance. It is only required if your down payment is less than 20% of the appraised value.

General Terms

Amortization:

The process of paying down the loan principal by making regularly scheduled payments over the life of the loan. The amortization schedule for a mortgage shows how much money goes toward principal and interest for each of the scheduled monthly payments.

Credit Score:

A numerical score that represents a person’s creditworthiness or how likely they are to pay back the money borrowed. In the United States, credit scores range between 300 and 850. Those with an exceptional credit score of 800 and above will get the lowest available interest rate, while those with a poor credit score that is below 620 will likely be denied a loan.

Default:

If the mortgage payment is more than 30 days late, the mortgage is considered to be in default. Once a mortgage is in default, one or more of the credit reporting agencies will be notified, which will adversely affect the borrower’s credit score.

Delinquency

Failure to make the mortgage payments on time. Technically a payment is delinquent as soon as the due date passes, but usually there is a 15-day grace period before a late fee is charged. Typically a home will not go into foreclosure until the delinquency exceeds 90 days, but depending on the lender and state law, it can be as short as 30 days for a conventional loan.

Equity:

The homeowner’s financial share of the property. It is the difference between the market value of the property and the outstanding loan balance plus all liens on the property. For instance, if the home is currently appraised at $325,000 and the current mortgage balance is $250,000 and there are no other legal claims on the property, the homeowner’s equity is $75,000.

Good Faith Estimate:

Provided by the mortgage broker or lender at the start of the refinance process, it is an estimate of the closing costs. According to the Real Estate Settlement Procedures Act, the Good Faith Estimate must be provided within three business days of applying for the loan.

Interest Rate:

The annual borrowing charge as expressed as a percentage of the loan. For instance, if the loan balance is $100,000, the interest rate is 4.0%, and the loan principal is a small portion of the monthly payment, then the amount of accrued interest will be roughly $4,000 for the year. However, if the loan principal is being aggressively paid off, the amount of accrued interest will be significantly less.

Lien:

A legal claim to the property by an outside party as repayment for a debt. Common liens include those for unpaid property taxes, unpaid homeowner association dues, or a legal judgment against the property by a subcontractor for work performed.

Foreclosure:

A legal process that is initiated by the lender to recover full ownership of the property when the borrower fails to make payments on the mortgage. Once the foreclosure is complete, the lender can then resale the property to recover the balance of the loan.

Rescission:

Canceling the mortgage contract without penalty to the condition that existed prior to its signing. For a refinance of your primary residence with a new lender, the consumer normally has three business days after closing to review the mortgage documents and exercise their right of rescission. Note that the right of rescission normally does not exist for an investment property, for purchasing a home, or for a refinance with the same lender.