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Intro to Buy to Let Mortgages

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Investing in real estate can be a lucrative idea. Many people decide to use residential properties that they own as a source of passive income by renting them out.

But what many people are unaware of is the fact that there is a way with which they can acquire a mortgage that has been specifically designed to meet this purpose.

Buy to let mortgages have been quite popular in the UK market and are now becoming the talk of the town in the US as well. In case you are not familiar with the whole concept of this type of mortgage, here is an interesting read:

What is a Buy to Let Mortgage?

With its roots in the United Kingdom, a buy to let mortgage uses the word ‘let’ from the commonly used British English vocabulary and means ‘rent’. This type of mortgage was first introduced to help landlords evict tenants that would prove to become a problem.

Gradually, the concept behind this mortgage widened and many different forms came into existence. Today, buy to let mortgage is thought to be a source of funding homes for the sole purpose of renting. It can thus be seen as a facilitator that can help investors can earn profit through their rental investments.

However, the purpose of the mortgage is not the only factor that differentiates such a mortgage from traditional options. The interest rate and down payment also vary considerably in both.

A buy to let mortgage requires the borrower to pay a higher amount of down payment and a higher interest rate. And that is primarily because of the risks associated with it.

Down Payment and Interest Rates

The down payment, as mentioned earlier, is higher than in the case of a traditional mortgage. Lenders typically ask for 15-25 percent. This percentage can, however, vary based on the profile of the borrower.

If the borrower is taking out a mortgage for the first time, the rate will be higher than usual. In the case of veterans, there might be a slight discount on offer. Other than the down payment, the interest rates are also significantly different than for traditional residential loans.

The loans are offered at competitive rates. To receive competitive rates, the buyers are expected to compete in terms of points. These points also increase the overall cost incurred by the borrowers in the process of taking the loan. Hence, a lot of research should be done when looking for the right lender and the best deal available should be considered.

Lender’s Criteria

Before giving out a buy to let loan, lenders will make sure that you have a strong credit score. Moreover, the rental income that you are planning to generate from your investment is also a subject of interest for the lenders. The lenders would ideally want the rental income to be 25-30 percent higher than the mortgage payment that the borrower would have to pay. Also, the amount that will be given to you will vary depending on how much you are expecting to generate out of the investment. Banks, as well as, lending institutions can be contacted if you are interested in getting a buy to get mortgage.

Eligibility Criteria

To be eligible for such a loan, the borrower must:

  • Meet the age criteria set by the lender. (Many of the lenders have a maximum age bracket that should be fulfilled at the time when the mortgage period expires.)
  • Lenders also specify a particular income bracket that the borrower should fall in to be eligible for a buy to let mortgage.
  • You should be able to take on a significant amount of risk.
  • Your own residential property is paid off.
  • You have an impressive credit score.

Things to Look Out For

Borrowers for such a loan should bear in mind the risks that are associated with renting out a property. It is not necessary that you will be generating income from day one. The income will only be generated once you find a suitable tenant.

Therefore, before taking up this project it is necessary that you are mentally ready for such a situation. Also, do not expect yourself to pay off the mortgage with the help of the money you earn through the sale of the house.

The value of your house will change with time and there is no guarantee that the amount that you have paid will be returned to you in full if you plan to sell the house. Therefore, it is necessary to prepare yourself financially for any unexpected circumstances.

Also, even if you were to sell the property at a gain, you will be paying a capital gains tax that will further reduce your share. You might also find yourself to be in a situation where the tenant does not cooperate with you and fails to pay what is due. A reduction of rental rates can also occur.

It is strongly recommended to keep such risks in mind when taking on this investment venture. Like any other investment, renting out property also has its own share of risks which you should be prepared for beforehand.

In a nutshell

Renting out property can become a successful venture if one does ample research. A buy to let mortgage can open doors for many investors looking for help in getting their hands on a property that generate a high ROI in the long-run.

Remaining aware of all the risks associated with such a mortgage is helpful in figuring out whether the decision is actually as lucrative as it sounds or not. In the US real estate market, the next few years are expected to witness an increase in the demand for such a mortgage. However, it is strongly advised to talk to a professional about the different ways in which you can finance such an investment and decide on one that suits your needs best.

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PITI – What Is It and How to Estimate It Yourself

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PITI, or “Pity”, is a sum of mortgage payments that include the principal amount, Interest on the loan, property tax, and insurance premiums. PITI helps lenders calculate a loan applicant’s ability to pay their mortgage payments based on the income level. Using PITI, lending institutions, such as banks, decide on how much loan amount they can offer to an applicant. Lenders also use PITI to create a reserve requirement as well. This is a multiple of PITI, which the lender keeps as a deposit. They use it to cover any shortages, if the borrower faces financial hardship and defaults on their monthly payment.

Breaking It Down

Breaking PITI down into its individual components helps us understand the term better and realize why each element is important in a mortgage payment calculation.

Principal

This is the base amount that you borrow from your bank to finance the new property you require. Your monthly payment doesn’t depend only on the principal amount. Principal will only make part of it while other portions will include interest, taxes, and insurance premiums.

Interest

When a lender such as a bank or any other financial institution offers you a loan, they are losing out on an opportunity to invest that amount somewhere else. To cater to this opportunity cost, the bank will charge you an interest on your loan amount. Most banks want to recover maximum interest during the beginning of the loan tenure. Hence, interest amount forms a major chunk of initial mortgage payments.

Taxes

The amount of PITI can vary based on the tax rate and assessed value of the property being financed. Some of the elements that determine your property tax include:

  • The state in which your property is located
  • Local tax assessor who comes to assess the value of property being financed
  • Market value of the property and its surrounding areas

The property tax is calculated by applying your local county tax rate on the assessed value of the property. After the principal and interest amount, property tax is the major contributor to the PITI amount.

Insurance

Just like property tax, home insurance is another variable that plays an important role in raising or lowering your PITI. The type and amount of home insurance you have to pay for depends on two factors:

  • The area you would like to live in
  • How much down payment you are willing to make

The most common types of insurances include:

  • Homeowners Insurance – This type of insurance protects you against vandalism, theft or other hazards such as a fire.
  • Flood Insurance – Depending on the area you are willing to move to, your lender may require flood insurance as well. This will be in the interest of both the parties in case of a natural disaster such as flood or hurricane, which can completely destroy the financed property.
  • PMI or Private Mortgage Insurance – According to 20% down payment rule, if a borrower makes a down payment of less than 20%, they are liable to purchase PMI as well.

Various elements can increase or decrease the amount of insurance premium on a property. Hence, borrowers need to be mindful while choosing a locality and making down payment to minimize their monthly mortgage payments.

Estimating Your PITI

It is always good to do a little homework and get a rough estimate about your monthly mortgage expense before you finance a property. This will help you maintain your monthly budget once you start making your loan payments. Your interest rates and principal amount are determined by your bank, but having a good grip on variable expenses such as taxes and insurance premiums can help reduce your mortgage payments. Some useful steps to determine your PITI value include:

1.         Looking For a PITI Calculator Online

An online PITI calculator will help you identify your monthly payments by amortizing your interest rate over the loan period. It will also take into consideration your property tax and home insurance by dividing the yearly payment in to 12 equal installments. It then adds all these elements together to form your monthly payment schedule.

2.         How Much You Need

PITI is calculated based on the amount you are financing from the lending institution rather than the property value itself. Before entering the loan amount in PITI calculator, you need to subtract your down payment from it as well. It is important to note that there are some closing costs associated with the mortgage loan. It would be wise if you allocate some of your savings to these charges to avoid any surprises after you have paid your mortgage in full.

3.         Tax and Insurance Variables

Almost any PITI calculator you choose will ask you for the tax and insurance amount. Banks usually include these variables in their monthly payment to protect themselves from property damage or tax liens.

  • Estimating Insurance Premium – A general rule of thumb is to set aside $35 for every $100,000 of your loan amount. If your bank requires you to acquire flood insurance, then your insurance premium may rise accordingly.
  • Tax Estimate – Check your local state regulations to figure out the tax rate and multiply it by market value of your property to get a rough tax estimate on your property.

Putting all these variables along with the loan tenure in the calculator will give you a rough idea of how much your PITI would come around to. You can then use this figure to manage your monthly budget accordingly.

Having an understanding of PITI is an essential part of taking out a mortgage. Lenders use the ratio of PITI to your gross income to determine your repayment capacity on a mortgage loan. For most lenders to offer you a mortgage loan, this ratio should be above 25%. Hence, doing your own PITI calculation beforehand will help you choose property that will provide you with best value for money.

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How Does a Reverse Mortgage Work?

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With rising healthcare costs and increase in property taxes, many retirees face difficulty in meeting their monthly expenses. Reverse Mortgage is an effective way for old age homeowners to convert their home equity into cash. Homeowners can use this cash in multiple ways such as renovating their property or paying off their monthly dues.

You can use a Reverse Mortgage to pay off a regular mortgage. This way, you can avoid monthly payments to your lender. If you can manage your property dues, such as taxes and other maintenance costs, you can apply for a Reverse Mortgage. You can pay the loan off any time before the last surviving property owner passes away or moves out.

Step By Step Guide To Securing a Reverse Mortgage

1.         Counseling

The first step towards securing a Reverse Mortgage facility is obtaining objective information about the Reverse Mortgage loan from counselors approved by Housing and Urban Development organization. Once the counseling session is complete, you will receive a certificate of completion at your home address. This certificate is part of the Reverse Mortgage loan application.

2.         Submit Loan Application

To initiate the Reverse Mortgage loan, borrowers need to submit an application packet to their lender, which usually includes:

  • A Valid Identification document
  • Proof that the property put up as collateral is your primary residence
  • Proof of income showing that you have enough money to pay for homeowner insurance and property taxes on your property
  • Reverse Mortgage counseling certificate

3.         Appraisal

Once you submit the loan application, the lender will appraise your property value. This is a major step in the Reverse Mortgage process as it determines the amount you are eligible to receive as a loan.

  • Request for Appraisal – According to latest housing regulations, lenders cannot order appraisers of their own choice and need to contact an independent Appraisal Management Company to appraise the property’s value.
  • Property Visit By An Appraiser – Once the lender makes a request for appraisal, FHA-approved property appraisers will visit your home for inspection and take necessary pictures to determine the property’s worth.
  • Submission of Appraisal Report – The appraisal report is shared with the lender within 3-5 business days after the property visit. Latest regulations require that lenders share a copy of the latest appraisal report with the applicant as well.

4.         Underwriting the Loan

During this stage of the loan process, underwriters review the application along with submitted documents and stipulate the terms and conditions associated with the loan. Once the application meets all the conditions, the lender will set a closing date for loan disbursal.

Cash Payment Options

  • One-time Disbursal – You can receive a lump sum payment from your lender through Reverse Mortgage. However, this is only available for fixed-rate
  • Term Option –Using this option borrower can receive a fixed amount of cash on a monthly basis for a pre-determined period.
  • Line of Credit –This is useful for applicants who need to utilize their Reverse Mortgage facility as and when required. The interest accrues depending on how cash the borrower draws over a period of time.

Eligibility Criteria

  • Since these loans were designed for senior citizens, Reverse Mortgage facility is available for people above 62 years of age.
  • You should either own the home or have low enough mortgage to pay it off using a Reverse Mortgage loan.
  • You must be living at the property and must not stay at any other place for more than 12 months.
  • For multi-family homes, you should be using one of the units as your primary residence. In the case of manufactured homes, they are approved for Reverse Mortgage as long as they follow FHA requirements. An HUD-approved condominium can also be used for availing Reverse Mortgage facility.
  • You must be able to pay your monthly dues during the life of the loan. These may include home insurance, property taxes, and maintenance fee such as homeowners
  • Many lenders require that you must not be delinquent on any federal loan.

Fees Associated With Reverse Mortgage

1.         Origination Premium

The federal government insures Reverse Mortgage loans, but the loan applicant has to bear the insurance costs. Insurance premium can range between 0.5% and 2.5% depending on the appraisal value and the amount you borrow from your initial limit in the first 12 months.

2.         Processing and Closing Fee

The lender can charge you up to $6,000 for processing the loan depending on your property value. Closing costs include fees for background and credit check, property appraisal, taxes and any other fees.

Risks Associated With Reverse Mortgage

  • Reducing Family Inheritance – Reverse Mortgage is a high-interest loan, which is compounded over a period of time. The upfront costs and accrued interest can considerably reduce your home equity. This means you may not be leaving behind much for your family or surviving spouse as an inheritance.
  • Risk of Foreclosure Proceedings – This could be a major problem for a surviving spouse who did not co-sign the Reverse Mortgage facility with the primary applicant. In case the applicant passes away, their spouse will be forced to sell the property to pay-off the loan. Hence, it is important that borrowers talk to other house occupants about a backup plan in case they do not survive.
  • Stringent Terms – Reverse Mortgage borrowers’ risk of losing equity in their home very quickly as the high-interest rates compound over a period of time. The terms for Reverse Mortgage are quite stringent as well, with lenders refusing to amend loan terms such as lowering interest rates or adding a co-borrower after loan disbursal.

Bottom Line

Reverse Mortgage allows borrowers to use their home equity to manage their monthly expenses. However, before availing this type of loan, borrowers should spend some time in understanding the loan terms and devising a strategy to maximize the loan proceeds. Otherwise, they may end up leaving little or no inheritance to their spouse or other family members.

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Understanding Subprime Mortgages

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When seeking for financial assistance in the form of a Mortgage loan, it is imperative that the intended borrower has a good credit score to secure the ideal loan. In addition to a good credit score, a debt to income ratio of less than 35 percent is also required. Unfortunately, not all borrowers can meet such requirements because of their credit history and low income.

In such cases, borrowers can apply for a subprime mortgage which is specifically designed to offer assistance to people with low credit scores and other financial issues. In this article, we will explain what a subprime mortgage is, when you might need it and how to apply for it.

What is a Subprime Mortgage?

Many times borrowers with low income face difficulties while applying for a loan. A conventional mortgage requires the borrowers to have a good credit score and a steady income. However, a subprime mortgage is offered to people who have a credit score of 600 or below.

One would expect such a loan to be at a greater risk of default since the borrowers already have a bad history when it comes to the repayment of loans. This risk is compensated for at the beginning of the process by offering higher interest rates as compared to the conventional loans. In some cases, banks may also charge the borrowers in some other way, such as a greater down payment or a higher closing cost.

Types of Subprime Mortgage

Within the category of Subprime Mortgage, there are other subtypes to choose from. These are:

1.      Fixed-Interest

The main advantage of choosing this type of subprime mortgage is the longer term of repayment. Instead of the traditional 30 year period for the repayment, a fixed-interest mortgage allows the borrower to have a longer repayment period of 40 to 50 years.

This longer-term translates into reduced monthly payments for the buyer, however, since the lender has to compensate for the risk associated with the greater inability of the borrower to pay off the total amount, a higher interest rate is added. While choosing such a mortgage, it is important to find out the amount of interest rate that is being offered by different lenders and choose the one that offers the lowest.

2.      Interest-Only Mortgage

An interest-only mortgage allows the borrower to have a period of 5, 7 or 10 years in which they are required to pay only the interest payments that are charged. Under such type of payment, the principal payment can be delayed and the borrower, if wishes, can regularly make payments towards the principal.

At the end of the term, the borrower is expected to pay off the mortgage or can refinance the mortgage. Such a mortgage is considered ideal for borrowers that are expecting to witness an increase in their income or an improvement in their financial condition over the years.

3.      Dignity Mortgage

This kind of mortgage is considered to be relatively new and gives the borrower ease in paying off the principal amount. In the beginning, the borrower is required to pay about 10% of the principal amount. After this, if the borrower is found to be diligent in paying the regular interest payments for five years, the amount that has been paid in the form of a higher interest rate is compensated to pay off the principal amount by reducing the interest rate to the prime rate. This gives the borrower an opportunity to prove their ability to pay off the loan which is why the term “dignity’ is used.

4.      Adjustable-Rate Mortgage

An Adjustable-Rate mortgage (ARM) uses a fixed interest rate at the beginning of the loan’s term after which the payment keeps changing and resetting according to an index. At the beginning of the repayment schedule, the borrower might be paying off a reduced amount. However, the unpredictable nature of such a mortgage does not give the borrower any guarantee about how the change might affect the payment schedule. There is a lot of unpredictability associated with such a mortgage due to its high dependence on the economic conditions and the index.

How to Get a Subprime Mortgage

When applying for a subprime mortgage, you will find the process to be extremely similar to the process that is followed when applying for a conventional mortgage. However, we have summarized the complete process of getting a subprime mortgage in the following steps:

  • At the beginning of the process, it is important to consider your options by making a list of all the lenders that offer subprime mortgages. By looking at the interest rates offered by each lender, choose one that best meets your needs.
  • Even though the documentation required in the case of subprime mortgage is not as complex as in the traditional mortgage, the lender will ask you for a steady proof of income, bank statements, and documents that reflect your monthly expenses.
  • Read the contracts thoroughly and sign them.
  • You might need to offer additional documents if the lender requires. Hence, you should not expect all the documents mentioned above to be sufficient and should be ready to gather and present any additional documents.

Pros and Cons of Subprime Mortgage

The biggest advantage of a subprime mortgage is the ability of borrowers with poor credit scores to get a loan and the less complex nature of the overall process as compared to that of a conventional one. Whereas, the disadvantages of subprime mortgage include, the higher interest rates and the requirement to show a steady income for borrowers who are presently unemployed.

Conclusion

Even though getting a subprime mortgage might be risky, as a borrower it allows you to have a more versatile mortgage option that you can use to buy a home for yourself without having to worry about your credit history or debt responsibilities. In case you expect your financial condition to improve shortly and are in need of temporary financial assistance getting a subprime mortgage is your best option.

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