I used to moonlight as a mortgage broker so let me give you a few cliffs on Mortgages 101:
1) First and foremost, think long and hard about what your long-term and short-term plans are regarding your housing situation and your career. They will dictate what mortgage is best for you, or if you are betting off renting for the time being.
2) Check your own credit. You are about to make the largest investment in your lifetime-- and one of the largest commitments. You would do well to spend a few dollars now to save yourself literally thousands down the road. Knowing your score will allow you to know in advance what loan programs are available to you. Also, take this opportunity to correct any derogatory information on your report.
3) Don't let the lender tell you how house you can afford-- you have to do this for yourself. A lot of lenders nowadays have no qualms about letting their borrowers spend as much as 50% of their gross income on a mortgage payment-- which is significantly higher than the 30-35% range which has long been the standard. A good starting point for figuring out what kind of mortgage payment you can afford is to look at your current rent. If you are just barely making ends meet with the amount you pay in rent, you shouldn't be looking at a getting an even higher mortgage payment.
4) ARM vs. Fixed Rate: There are two major types of pricing for closed-end mortgages: adjustable rate and fixed rate. The adjustable rate is generally tied to some index (such as the prime rate, or the LIBOR rate), subject to rate caps, whereas the the fixed rate is just that-- fixed. Generally, the initial rates on ARMS are lower than those for fixed rates-- in essense, you are getting a discount in exchange for taking on some of the risk of rising interest rates.
5) All about ARMs: The most popular ARMs are "1/1", "3/1", and "5/1" ARMs-- the first number represents how long the initial rate lasts (in years) before being adjusted, the second number is how often aftewards the rate can adjust. "1/1" ARMs are popular for new home construction loans, or home-to-home loans, since they usually have a very low initial rate and are typically paid off or refinanced in the first year before the rate adjusts. "3/1" ARMs are popular for those who are buying a starter house or otherwise only plan on owning the house for a few years. "5/1" ARMs are popular among those who would ordinarily go for a 30-year fixed rate loan but want to enjoy a slightly discounted interest rate while they wait for lower fixed-rates in the future.
6) 15-year vs. 30-year: Some lenders off a discounted rate for a 15-year term instead of a 30-year term-- but a lot do not-- their rates are identical. In situations like the latter, you are better off going with the 30-year term-- which gives you the flexibility of making extra payments towards principal when you can afford it without having to cough up extra money each and every month.
7) Closing costs: The bottom line on closing costs is to always negotiate with the seller to pay or contribute towards the closing costs-- even in lieu of an equivalently lower selling price. Closing costs (which generally can be from $1000 up to $10,000) is cash right out of your pocket if you pay them yourself. If your seller pays $5000 towards closing costs your home is already worth $5000 more than it was before you've even moved in.
8) Down payment: Now that your seller is paying closing costs, that means all of your cash is available to be used towards a down payment. And a higher down payment in some cases can mean a lower rate. Having 20% to put down is ideal because you will qualify for just about every loan program out there-- plus, you will save by not having to get dreaded private mortgage insurance (PMI) which can cost anywhere from $50 to $500 a month extra. If you don't have 20%, though-- don't sweat-- you can still save yourself from PMI by getting an 80% first mortgage and a 20% second mortgage. The rate on the 20% second mortage will be higher than the first mortgage, but should still be tax deductible and your overall payment should be lower. The problem here is that with a lower down payment, your credit becomes that much more important since you now have to qualify for two loans-- not just one.
9) Points (aka pre-paid interest): Some lenders will offer a discounted fixed rate in exchange for you outright giving them money up front-- this money is called pre-paid interest, and is usually measured in points. One point is equivalent to 1% of your mortgage amount, so one point on a $100,000 mortgage amount works out to be $1,000. Paying points is a costly investment that only pays off in time. You can roughly estimate how long until your break even by dividing the amount of points you are paying by the amount your rate is being dicounted. For example, if you are paying 2.5 points for a discount of 0.75% you will break even in 2.5/0.75, or roughly 3.3 years. Paying points can also be benficial if you had an unusually high income this year since the points are technically interest expenses and are therefore tax-deductible. Generally speaking, though... most people are not in a financial position to pay points and are better off using what money they do have towards a down payment.
10) Bottom line: learn as much as you can about mortgages, what programs are available, and what your own requirements are. Once you know your own requirements, you will be better suited towards working with a broker who can find a program that fits your needs perfectly. Don't let the broker talk you into something you cannot afford or terms you are not comfortable with-- which is why knowing your requirements and goals beforehand is absolutely essential.
Hope that helps a little...
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