Mortgage refers to a debt mechanism that is secured using specified real estate property as collateral. The borrower is under obligation to pay it back via a predetermined payment plan executed through instalments. Businesses, as well as individuals, apply mortgages for making large purchases of real estate, without repaying the entire amount upfront. The borrower makes repayment of the loan along with interest until he eventually owns the property with no debt due at all. Mortgages are also termed as “claims on property” or “liens against property.” The bank retains power of foreclosure on such property if a borrower ceases from making requisite repayments as agreed.
In Anglo-American property law, in order for a mortgage to occur, the right to such property has to be pledged by its owner in the form of loan collateral or security. A mortgage is, therefore, an encumbrance or limitation on right to property, similar to an easement. However, since the majority of mortgages are set as condition for obtaining new loan money, the term mortgage has itself become generic term for loan secured using such real property. Just as for other kinds of loans, mortgages bear an interest rate, amortizing over a set time period, which is typically 30 years. All forms of real property can be and normally get secured via mortgage. They bear an interest rate which is meant to reflect risk which the lender faces.
A residential mortgage is one where the item pledged to bank is a home that the buyer owns. The bank lays claim to the house in case of default by homebuyer on mortgage repayment. During a foreclosure, the bank can evict tenants from the home then sell it out and use the income recovered for clearing the mortgage debt.
The borrower of a fixed rate mortgage pays interest at the same rate for the entire loan-lifespan. In this case, the monthly principal as well as interest rate remain the same all through the duration of repayment. Majority of fixed-rate mortgages last in-between 15 and 30 years. Amount of loan repayable done does not vary with market interest rates. The borrower might be able to secure a lower rate if a drop takes place in market interest rates. This is achieved through the act of mortgage refinancing. The term “traditional” mortgage is also applied in reference to a fixed-rate mortgage.
Adjustable-rate mortgage (ARM)
For an adjustable-rate mortgage or ARM, rate of interest gets fixed for an initial term, after which it undergoes fluctuation with market interest rates. Initial rate of interest often is a below-market rate that can render a mortgage more affordable than is the reality. The borrower might be unable to afford higher monthly payments if interest rates later increase. As well, interest rates could decrease too, which renders the ARM a less expensive mortgage facility. Monthly payments become unpredictable after the first term.
Other mortgages that are less common, like payment-only ARMs and interest-only mortgages are best utilized by sophisticated borrowers. Many homeowners experienced financial trouble with such mortgage facilities during housing-bubble years.