The Center For Debt Management
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Home Loans: How to Keep Costs from Going Through the Roof

Buying and maintaining a house is expensive enough, so why pay more than you have to for a home loan? Suggestions in this article can help keep down the costs of a mortgage or home equity loan.

1. You can negotiate the rates and terms of a home loan. You should look for a mortgage the way you'd look for a car — get all the important cost information, shop around and, yes, negotiate for the best deal.

Many consumers aren't aware that they can negotiate the rates, closing costs and other terms of a mortgage or home equity loan and possibly save thousands of dollars. People often think that when they get a quote on a loan from a lender or a mortgage broker (someone who finds a lender for you) that the same price is being offered to everyone. But a lender or broker may offer the same loan at different prices for different consumers, even if those consumers are equally qualified for the loan. Why? Often that's because the loan officer or broker is able to keep as income some or all of the difference between the lowest-price loan available and any higher rate the consumer agrees to pay.

2. Consider a fixed-rate loan even if adjustable-rate mortgages (ARMs) carry a lower initial interest rate. A fixed-rate loan adds certainty and stability to a big part of your loan payment, which can provide peace of mind, especially given that other housing costs — such as real estate taxes, insurance and home upkeep — are likely to rise in the future. ARMs generally start with a lower interest rate, but remember that an ARM rate can go up, sometimes significantly. It may be worth shopping around because you may be able to obtain a fixed-rate mortgage with payments comparable to an ARM and not have to worry about future rate increases.

"If you are thinking about an ARM, make sure you know how much and how often the interest rate and payment could go up before you sign on, and be comfortable that you can meet those higher monthly payments," cautioned Janet Kincaid, FDIC Senior Consumer Affairs Officer. "Don't let a low teaser rate lure you in; you may be surprised later."

3. Mortgages that involve little or no documentation of your income or assets may mean higher costs. While these mortgages can save you time and are attractive if your source of income is unpredictable, the lender generally charges a higher interest rate. "If you have income that's easy to document, such as regular statements from your employer or a monthly Social Security payment, it's probably not worth paying extra over the long term of the loan just to save a few days during the application period," said Mira Marshall, an FDIC Senior Policy Analyst on consumer issues. "Be sure to ask about full documentation loans and compare the costs."

4. Look into paying off your mortgage sooner rather than later. A mortgage with a long repayment term (30 or even 40 years) is very appealing because the monthly payments are relatively small, which can put a more expensive home within reach. However, the downside of this strategy is that you'll have a much smaller amount going to pay off your loan each month, and that can dramatically increase the total interest costs.

You can save tens of thousands of dollars in interest — depending on the amount of your loan and the interest rate — by choosing to reduce the length of your mortgage. Many people pay off their 15- or 30-year mortgage loan faster by sending in extra payments — say, an additional $50 or $100 each month or one large payment once a year. If you can afford the extra payments and don't have other uses for the money, "this is an easy way to pay off the loan and save thousands of dollars in interest charges without incurring the cost of refinancing," said Marshall. There are pros and cons to the different strategies, so you may wish to consult with a financial or tax advisor about what is best for you.

5. Save money on insurance. Because the value of your house is backing your mortgage, you will be required by your lender to have homeowners insurance to cover a variety of damages that could reduce the property's value. Prices can vary significantly, so shop around.

Also make sure you get the right coverage for your situation. For example, if you live in an area that is at high risk for floods or earthquakes, you should consider purchasing additional insurance coverage if it is not otherwise required by your lender.

Private Mortgage Insurance (PMI) protects the lender when a borrower fails to pay. It is usually required for loans in which the down payment is less than 20 percent of the sales price. For the typical mortgage loan, PMI costs about $40 to $70 per month or around $500 to $800 a year. "PMI is costly and you should try to avoid it," said Luke Reynolds, an FDIC Community Affairs Specialist. "If you can't afford the large down payment that would save you from PMI, ask the bank if there are other options for a smaller down payment without PMI." Under federal law, with certain exceptions, PMI automatically will be terminated if the borrower accumulates 22 percent equity in the home and is current on mortgage payments.

Some homebuyers inadvertently pay for PMI if they add the closing costs to the loan balance, thereby reducing their down payment to less than 20 percent of the home's value. By paying the closing costs instead of adding them to your loan, you can avoid paying interest on the closing costs and avoid paying PMI.

6. Look for government incentives for first-time homebuyers, low- or moderate-income families and other borrowers. Eligible applicants can save on the interest rate, closing costs, down payment, and other loan terms.

For example, mortgages insured by the FHA may feature low down payments and low closing costs.

7. Borrowing money from your home's value can be low-cost but also risky. Many people take out low-cost loans based on their equity in the house. The equity refers to the difference between what is owed the mortgage lender and the current market value of the property. If you owe $100,000 on your mortgage but your home is worth $250,000, your equity is $150,000.

Home equity products can be used for many purposes, including home improvements, college tuition and car purchases. They also can be low-cost loans because the interest rate is usually lower than for credit cards, and the interest paid is often tax deductible (check with your tax advisor). But — and this is important — the big risk with home equity products, as with a mortgage loan, is that you can lose your home if you can't make your payments. Home equity products can be fine for many people but, because you would be putting your home on the line, these loans are not to be taken lightly.

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