Buying a Home
Before you start shopping for a home, it’s important that you understand the home buying process and the different types of loans that are available.
Learning the basics will help you throughout the complicated process and will help you avoid trouble.
- Determine How Much You Can Afford – Use the 28/36 Rule
- Check Your Credit History
- Educate Yourself
- Verify That You Are Working with Licensed Professionals
Applying for home loans
Home loan EMIs can be a nightmare. While you do have the satisfaction of knowing you will eventually own your home, you also have to grapple with having to spend less money, with fewer treats, with giving up on luxuries that you would otherwise have enjoyed.
Important things to consider when going for a home loan
- Ensure you calculate the total loan payments yourself. You need to know the exact amount you will be paying at the end of your loan term. You also need to know the penalty you will be charged if you prepay the loan. Sometimes, such penalties can be substantial.
- Loan repayments are tricky to calculate, so make sure you know how the payments are worked out on a compound interest basis.
- The kind of interest rate you choose is also very important. Are you going in for a fixed rate loan or a floating rate loan? If you are a first time buyer, make sure that, whatever option you choose, your EMI remains fixed even if the interest rate goes up for the first few years of your loan term. This will enable you to plan ahead and feel safe that your payments will not increase like they would with a pure floating rate home loan.
- Before you go in for a home loan, make sure you have a good credit history. Banks and other financial institutions use credit checks. To have a good credit history, you should pay your credit card bills on time and not change your house address frequently.
- Try and set aside a solid deposit, say 15 per cent of your property price, so you can make your monthly payments even if you are without a job for a brief period.
- Ask your lender if they will allow you to make more than your allocated payments. If they agree, you can pay more money whenever possible, so that you pay less interest at the end of your loan tenure.
- Before applying for a home loan, you should know for sure you have a permanent job to pay your EMIs on time. If you are holding a temporary job and you lose your contract and fail to make payments on time, it may result in the bank taking away your home.
- Use money wisely and gradually. Don’t expect sales persons from banks to educate you. Do your research thoroughly and then make a decision.
- Finally, any form of credit does carry its risk. But, if it is managed in a methodical manner, you will be in a comfortable position in the future.
Different types of home loans
While the different choices may seem overwhelming at first, the overall goal is really quite simple: you want to find a loan that fits both your current financial situation and your future plans.
Most loans fall into three major categories: fixed-rate, adjustable-rate, and hybrid loans that combine features of both.
• Fixed-Rate Mortgages
As the name implies, a fixed-rate mortgage carries the same interest rate for the life of the loan. Traditionally, fixed-rate mortgages have been the most popular choice among homeowners, because the fixed monthly payment is easy to plan and budget for, and can help protect against inflation.
Fixed-rate mortgages are most common in 30-year and 15-year terms, but recently more lenders have begun offering even 40-year loans.
• Adjustable-Rate Mortgages (ARM)
Adjustable-rate mortgages differ from fixed-rate mortgages in that the interest rate and monthly payment can change over the life of the loan. This is because the interest rate is tied to an index (such as Treasury Securities) that may rise or fall over time. In order to protect against dramatic increases in the rate, ARM loans usually have caps that limit the rate from rising above a certain amount between adjustments (i.e. no more than 3 percent a year), as well as a ceiling on how much the rate can go up during the life of the loan (i.e. no more than 6 percent).
With these protections and low introductory rates, ARM loans have become the most widely accepted alternative to fixed-rate mortgages.
• Other Terms Relating To Adjustable-Rate Mortgages:
- Adjustment period: The length of time between interest rate changes.
- Cap: The limit on how much an interest rate or monthly payment can change at each adjustment or over the life of the loan.
- Conversion clause: A provision in some loans that enables you to change an ARM to a fixed rate loan, usually after the first adjustment period. This may require additional fees.
- Index: A measure of interest rate changes used to determine changes in the loan’s interest rate over the term of the loan.
- Margin: The number of percentage points a lender adds to the index rate to calculate the ARM’s interest rate at each adjustment
• Hybrid loans
Hybrid loans combine features of both fixed-rate and adjustable-rate mortgages. Typically, a hybrid loan may start with a fixed-rate for a certain length of time, and then later convert to an adjustable-rate mortgage. However, be sure to check with your lender and find out how much the rate may increase after the conversion, as some hybrid loans do not have interest rate caps for the first adjustment period.