Anatomy of a mortgage agreement
Buying your dream home is a huge decision in many of our financial lives. In this, the first of a five-part series in Moneywise, we take a look at what the process entails.
You’ve saved and saved – now the dream is about to become a reality. One of the most exciting days of your and your partner’s life – your first home.
Now, the paperwork, already in progress with your qualifying criteria approval, continues.
There is so much to review and think about.
You’ve met the down payment threshold. While a few lucky individuals can afford to pay cash, most buyers must finance the purchase.
Numerous questions arise, among them:
How long should the term be?
What is the loan value of the property?
How much can we borrow?
What are the bank’s interest rates, how we will know if we get the best rate?
What does the mortgage contract look like (and are there different contracts)?
Who is going to own the home?
What other stipulations are there?
Can we prepay on the principal?
What if the previous owner wants to finance part of the purchase price?
What happens if we miss a payment?
How do we know if we have clear title to the property?
Do local banks offer title insurance?
Who surveys the property?
Do we have to carry life insurance?
If so, whose life should it be on, one owner, both owners?
How much property insurance should we carry?
How can we keep track of our payments?
What happens if one of us loses our job?
Do we get a copy of the mortgage contract ahead of the closing?
Should we hire a financial adviser, a lawyer or other?
What are the closing costs?
Mortgage contract overview
While we tend to think of this as a single purchase, there are actually two contracts at sale / purchase of the home.
Nomenclature of the process. The borrower is called the mortgagor, the lender is the mortgagee. The names come from the Old French morgage, “dead pledge”, meaning that the deal dies upon repayment or default.
The conveyance: the seller transfers property deed to buyer for consideration (payment). However, the buyer, or prospective homeowner, does not receive the mortgage deed at purchase, unless full cash payment is remitted at closing.
The mortgage: the buyer (mortgagor or borrower) executes a mortgage with a bank, a mortgage company, or insurance company, pledging the real estate as collateral.
Title to the property and mortgage charge are registered at the Land Title Registry Office.
A very important point: the bank (mortgagee or lender) holds the deed until the mortgage payoff, plus as the bank now has a collateralised interest in the property, it has a right to possess the property, and sell it in the event of a default.
Another important point to keep in mind is this: the individual(s) or entity agree at the signing of the mortgage contract to adhere to the full terms stated.
No one, including the lender, wants to see, a traumatic default. Extenuating circumstances such as severe illness, underemployment or redundancy, and related matters that were addressed in July 2020 to amend the Consumer Protection Act 1999 to provide more assistance to consumers does not appear to have been legislatively enacted.
Types of mortgage
A mortgage is an amortised mathematical calculation (so is credit card debt – but that is another article) where the principal of the debt is reduced over time. Stay tuned for a demonstration in part two.
Fixed interest rate mortgage: terms can run from 10 to 30 years. However, according to local bank website information, the interest rate is fixed only for time periods of up to five years, at which point the interest rate is renegotiated for another fixed interest rate time period, or switched to a variable interest rate time period.
Adjustable-rate interest mortgage (ARM): – your payments can increase or decrease with interest-rate changes, based on the terms of your individual loan and a benchmark rate index. In a rising interest rate market, an ARM may not be as appropriate as a fixed-term mortgage; however, the reverse, in a declining interest rate market is true, where an ARM may be better suited – for a short-term loan. The takeaway is that ARMs are adjusted based upon prevailing interest rates, with the result not always predictable for homeowners’ closely monitoring budgets.
Construction loan: is generally interest-only, providing funds to build the home. In the US, a construction loan duration is typically one year – after which a certificate of occupancy is issued. The loan is then converted by the lender to a conventional mortgage, both principal and interest.
It is absolutely critical that the homeowner assures that this conversion takes place! Your author has seen where the loan was assumed to be converted, but devastatingly, 20 years later, the homeowner still owed the entire principal amount.
Kinds of legal ownership
• Sole owner
• Joint tenancy with rights of survivorship where each party has equal rights to the property that cannot be sold without mutual consent
• Tenants by the entirety: generally married couples only
• Tenants in common: used frequently when interests in property are unequal, or with extended families, second marriages, etc.
• In trust: property is conveyed to a trust that holds the legal title for the protection of the beneficiaries of the trust.
Freehold: the individuals own the property and the plot of land underneath providing more individual control over the real estate. Owners still have use of common areas for a fee.
Leasehold: you own the property within, but not the land underneath or maintenance of the grounds. Typically, a lease accompanies the purchase for 99 years, at which time, it needs to be renewed. A maintenance fee is required for all common areas.
Listen to the podcast accompanying the online version of this article on The Royal Gazette website, which was recorded when interest rates were lower.
This is part one of five, which will also be featured in more detail on the Bermuda Bermy Island Finance Blog
Stay tuned for part two – building equity, amortisation and the mortgage process, reviewing contract terms, issues, and red flags.
Disclosure: Martha Myron has no connection to any mortgage lender; further, specific terms and conditions will vary from lender to lender; professional guidance is recommended.
• Martha Harris Myron is a native Bermuda islander with US connections. Author of Bermuda’s First Financial Literacy Primer – the Dawn of New Beginnings, and the Bermuda – Bermy Island Finance Blog. Contact: email@example.com