What credit crunch

Finding your dream home is easy. Buying it, however, may seem out of reach. Thankfully, there are great home loans out there that can turn your dream home into a real home. It’s only a matter of knowing where to look and what to do.

First, you need to know that there are two types of home loans:
1) Fixed rate mortgage, where a fixed rate of interest is applied throughout the entire loan term, making your monthly payments constant and much easier to handle; and
2) Adjustable rate mortgage, where your monthly payments differ with each change of interest rate, and they have lower interest rates than fixed rate mortgages.

Once you get this done, you also need to check if you qualify for a loan. You can even get help from the government if you fit their requirements. There are three kinds of government assisted home loans:
1) Federal Housing Administration loans or loans for low to moderate income buyers by the FHA;
2) Loans guaranteed by the Department of Veterans Affairs or VA which is available to most veterans and service persons; and
3) Rural Housing Service by the Department of Agriculture, or loans for rural residents.

Find out which government assisted home loan works best for you and use it to your advantage.

And finally, as with any other type of loan, weigh all your options and prepare yourself. Look online—scour the net for home loan deals. It helps to collect and compare all the offers you receive from online lenders to know which home loan will work best for you.

Once you’re ready to apply for a home loan, make sure to be ready with the following:
1) Information on down payment options because you’ll most likely be given two choices–pay a big down payment now and pay the rest later, or no down payment but pay bigger amounts later. Know which will work to your advantage.
2) Your employment details because a job earns you money to pay for bills and your loans.
3) Your credit score because a better credit score will most likely get you the better deals out there.

One of the more confusing terms when getting a home loan would be the term ‘prepayment penalty’. Part of the confusion comes from the fact that not all lenders impose a prepayment penalty upon their cardholders.  Despite this, it is still important to be aware of this term, especially if you’re looking to secure a mortgage. Prepayment penalties could have a significant impact in home loans.

So what exactly is a prepayment penalty?

In simple terms, it is a ‘penalty’ given by the lender if the borrower pays off the home loan before a specified amount of time: in most cases, within the first three to five years. That penalty comes in the form of a charge.

This probably doesn’t make a lot of sense to you. Why on earth would a lender want to penalize a borrower for paying off his/her mortgage early? This is because lenders incur expenses by putting up a loan for the borrower; in effect, lenders will naturally want to make sure that they make up for all the expenses they ring up. Ideally, all those expenses would be answered for during the life of a home loan. If, however, the mortgage is repaid too early, such as when a borrower chooses to refinance, the lender could incur losses. The prepayment penalty ensures that the lender earns back whatever cost was dished out to put up the loan.

Prepayment penalties are more common for subprime home loans given to people who have bad credit, are in a lot of debt, or do not have a stable employment. But prepayment penalties may still be issued on borrowers with good credit looking for even better rates. In such a case, a borrower agrees on having a prepayment penalty in exchange for a lower rate by around one-eighth to three-eighths of a point compared to the market rate.

Would agreeing to a mortgage with a prepayment penalty in exchange for lower rates be beneficial to a borrower?

The answer really depends on whatever happens after the home loan is agreed upon. A large factor for the mortgage rate would be based on the market rate. Hence, the ‘lower rate’ that a borrower gets for accepting a prepayment penalty is relative to the current market rate.

If the market’s rates remain the same or rises within the following years, incurring the lower interest rates in exchange for a prepayment penalty would look like a good idea.

If, however, the market rates drop significantly in the next few years, the ‘lower interest rates’ the borrower incurred at the time that the mortgage was agreed upon won’t look ‘low’ relative to the new market rate. Ideally, a borrower might want to refinance his/her mortgage to a lower fixed rate and take advantage of the new market rates. But because of the prepayment penalty, the cost of refinancing may be too steep. The borrower, therefore, might not be able to take advantage of the lower rates.

For people who have an adjustable rate mortgage and to desperately need to get refinanced to a lower fixed rate, having to pay the prepayment penalty is not very helpful.

In a sense, agreeing on a prepayment penalty clause on your mortgage limits your options to adapt to changing market rates. For some people, getting a few percentage points taken off their mortgage now in exchange for having a prepayment penalty is a good enough trade-off. But if you are the type who monitors the market rates and always considers the possibility of refinancing, perhaps, you may want to pursue a home loan without a prepayment penalty for the sake of keeping your options for the future open.