Home Buying Education

Understanding Mortgages

A mortgage is a loan used to purchase or refinance a home. The borrower repays the loan over time with interest, and the home serves as collateral for the loan.

Monthly Mortgage Payment (PITI)

A typical monthly mortgage payment may include:

• Principal — The amount paid toward the loan balance

• Interest — The cost of borrowing the loan

• Property Taxes — Local taxes based on the home’s assessed value

• Homeowners Insurance — Insurance coverage for the property

Property taxes and homeowners insurance are often included in the monthly payment through an escrow account, depending on the loan and lender requirements.

Common Mortgage Types

Conventional Loans

• Not government-backed

• Typically require higher credit scores compared to other loan types

• PMI (Private Mortgage Insurance) is usually required if the down payment is under 20%

• Mortgage insurance costs may be lower than FHA loans depending on credit profile and loan terms

• PMI may be removed once the loan reaches 80% of the home’s original value (by request) and is typically removed automatically at 78%, depending on loan terms

FHA Loans

• Government-backed

• Lower down payment options (as low as 3.5% in many cases, depending on credit qualification)

• More flexible credit requirements

• Mortgage insurance is required

FHA loans include two types of mortgage insurance:

• Upfront Mortgage Insurance Premium (UFMIP)

• Annual Mortgage Insurance Premium (paid monthly)

In most cases:

• If the down payment is less than 10%, mortgage insurance typically lasts for the life of the loan

• If the down payment is 10% or more, mortgage insurance is generally removed after 11 years

FHA borrowers may be able to remove mortgage insurance by refinancing into a conventional loan if they qualify.

VA Loans

• Available to eligible veterans, active-duty service members, and certain military families

• Often require no down payment

• Do not require PMI

• Include a VA funding fee (may be waived for eligible borrowers)

• Must meet service eligibility and lender requirements

• The VA funding fee can often be financed into the loan amount rather than paid upfront

USDA Loans

• Designed for eligible rural and certain suburban areas

• Income limits apply based on household size and location

• May offer low or no down payment options

• Property must be located in a USDA-eligible area

• Borrowers must meet income and eligibility requirements

• USDA loans include an upfront and annual guarantee fee, which functions similarly to mortgage insurance

Fixed vs Adjustable-Rate Mortgages

Fixed-Rate Mortgage

• Interest rate remains the same for the life of the loan

• Monthly principal and interest payments remain stable

• Common loan terms include 15-year and 30-year options

Adjustable-Rate Mortgage (ARM)

• Interest rate is fixed for an initial period, then adjusts periodically

• Monthly payments can increase or decrease over time based on market conditions

Example: 5/1 ARM

• Fixed rate for the first 5 years

• Adjusts once per year after the initial period

ARMs include rate caps that limit how much the interest rate can increase at each adjustment and over the life of the loan.

Interest Rate vs APR

Interest Rate

• The cost of borrowing the loan, expressed as a percentage

APR (Annual Percentage Rate)

• Includes the interest rate plus certain loan-related costs, such as:

  • Certain lender fees

  • Some closing costs

  • Mortgage insurance in applicable loan types

APR provides a broader view of the loan’s total cost, but not all fees may be included. It is most useful as a comparison tool when evaluating different loan offers.

Down Payments

Typical Ranges:

0%

• VA loans (for eligible borrowers)

• USDA loans (in eligible areas)

~3%

• Some conventional first-time homebuyer programs

3.5%

• FHA loans (minimum requirement in many cases, depending on credit qualification)

5%–20%

• Common range for conventional loans

20%+

• May avoid PMI on conventional loans

Higher down payments generally reduce loan costs, monthly payments, and total interest paid over time.

Mortgage Insurance

Private Mortgage Insurance (PMI)
PMI is required on most conventional loans with less than 20% down and protects the lender.

PMI can typically be removed:

• At 80% loan-to-value (based on the original home value) by request

• Automatically at 78% loan-to-value (based on the original home value)

In some cases, PMI may be removed earlier if the home’s value increases and the borrower meets lender requirements.

FHA Mortgage Insurance

• Required on most FHA loans

• Includes both an upfront premium and an annual premium (paid monthly)

In most cases:

• If the down payment is less than 10%, mortgage insurance typically lasts for the life of the loan

• If the down payment is 10% or more, mortgage insurance is generally removed after 11 years

FHA mortgage insurance is typically not removed automatically based on home value and may require refinancing into a conventional loan to eliminate, depending on eligibility.

Escrow

Escrow is a neutral account used to manage funds during and after a home purchase.

Common uses:

• During purchase — Holds earnest money and documents until closing

• After closing — Collects monthly amounts for property taxes and homeowners insurance

Escrow helps spread large annual costs into smaller monthly payments, but it increases the total monthly housing payment.

Escrow is often required by lenders, especially when the down payment is lower or the loan program requires it. In some cases, borrowers may be able to waive escrow requirements depending on lender guidelines.

Property Taxes

Property taxes are ongoing costs set by local governments to fund public services.

Key points:

• Based on the home’s assessed value

• Rates vary by location

• Typically paid once or twice per year

• Often included in the monthly mortgage payment through escrow

Property taxes can increase over time, raising the total housing cost even if the loan’s interest rate remains the same.

Property tax rates vary widely by location. In many areas, they may range roughly from 0.5% to over 2% of a home’s value annually, but this can differ significantly depending on the state and local jurisdiction.

Closing Costs

Closing costs are one-time fees paid at the end of the home-buying process.

Typical range:

• Approximately 2%–5% of the home’s purchase price (varies by loan type and location)

Common costs include:

• Loan and lender fees

• Appraisal and credit report fees

• Title and settlement services

• Prepaid interest

• Initial escrow funding

Buyers typically pay most closing costs, though seller credits or lender credits may be available in some situations.

Credit Score Impact

Credit scores can impact:

• Interest rate

• Loan approval

• Down payment requirements

• Mortgage insurance costs (if applicable)

Higher credit scores generally qualify for better loan terms, while lower scores may result in higher costs or stricter requirements.

Debt-to-Income Ratio (DTI)

Debt-to-income ratio (DTI) compares your monthly debt payments to your gross monthly income (before taxes).

Calculation:
Monthly debt payments ÷ Gross monthly income

Example:

• Gross monthly income: $4,000

• Monthly debt payments (minimum required):

  • Car loan: $450

  • Student loan: $300

  • Credit card minimums: $150

  • Personal loan: $100

• Total monthly debts: $1,000

DTI Calculation:
$1,000 ÷ $4,000 = 0.25 (25% DTI)

Two types of DTI lenders use:

Front-End Ratio (Housing Only)

• Compares housing payment to income

• Typically around 28%–31% of gross income (varies by loan type)

Back-End Ratio (All Debts)

• Includes housing plus all other monthly debts

• Commonly up to 43% for many qualified mortgages

• May be higher (sometimes up to ~50% or more) depending on loan program, credit profile, and compensating factors

Lower DTI generally improves loan approval strength and overall loan flexibility.

Banks vs Credit Unions vs Mortgage Brokers

Banks

• Offer their own loan products

• May have stricter guidelines and fewer loan options compared to other lenders

Credit Unions

• Member-owned financial institutions

• May offer competitive rates and lower fees

• Often focus on serving local members

Mortgage Brokers

• Work with multiple lenders

• Help compare loan options and find competitive terms

• May offer access to a wider range of loan products

Pre-Approval vs Pre-Qualification

Pre-Qualification

• Basic estimate based on self-reported financial information

• Does not typically require verification

Pre-Approval

• More detailed and verified process

• Typically includes:

  • Credit check

  • Income verification

  • Asset review

Pre-approval is generally stronger when making an offer, but it is not a final loan approval. Final approval depends on full underwriting and property-related factors.

Homebuyer Education Courses

Some first-time homebuyers may be required or encouraged to complete a homebuyer education course, depending on the loan type or any down payment assistance programs being used. These courses are typically offered online through lenders, housing agencies, or state-approved providers and are designed to help buyers better understand the home-buying process and their financial responsibilities.

Total Cost of Homeownership

Owning a home includes more than just the monthly mortgage payment. Total housing costs may include:

• Mortgage payment (principal and interest)

• Property taxes

• Homeowners insurance

• Utilities

• Maintenance and routine upkeep

• Repairs and unexpected expenses

• HOA (Homeowners Association) fees, if applicable

• Changes in insurance or tax costs over time

Understanding the full cost of homeownership helps provide a more accurate picture of what a home will cost beyond the monthly payment.

Common Home Buying Mistakes

Shopping Only by Monthly Payment
Focusing only on the monthly payment can hide the true cost of a home.

• Payments can be lowered by extending loan terms or increasing interest rates

• Taxes, insurance, and HOA fees may not be fully reflected upfront

• A lower payment does not always mean a better financial decision

Buyers should evaluate the total housing cost, not just the monthly payment.

Ignoring Maintenance and Repairs
Homeownership includes ongoing costs that renters may not face.

• Routine maintenance (roofing, HVAC, plumbing, appliances)

• Unexpected repairs can be expensive and urgent

• Older homes often require higher annual maintenance

A common rule of thumb is to budget approximately 1%–3% of the home’s value per year for maintenance.

Using the Maximum Approval Amount
Being approved for a certain amount does not mean it will be comfortable to afford.

• Approval is based on debt ratios, not lifestyle or spending habits

• Maxing out approval can leave little room for savings or emergencies

• Financial strain can increase if income changes or expenses rise

Buyers should choose a home price that fits their overall financial situation, not just the lender’s limit.

Skipping the Home Inspection
Skipping an inspection can expose buyers to significant financial risk.

• Inspections identify safety, structural, and system issues

• Hidden problems can cost thousands after closing

• Inspections can provide leverage during negotiations

An inspection is a relatively small cost compared to major repairs.

Not Comparing Lenders
Loan terms can vary significantly between lenders.

• Interest rates, fees, and loan structures differ

• Small rate differences can cost thousands over time

• Comparing lenders can improve both upfront and long-term costs

Shopping multiple lenders often results in more competitive loan terms.

Most home-buying mistakes come from rushing decisions or focusing on only one part of the process. Taking time to plan, compare, and understand the full financial picture can lead to better long-term outcomes.

Maintaining an emergency fund of approximately 3–6 months of expenses after purchasing a home can help prepare for unexpected costs.