Getting a mortgage is a long and complex process. The lender will usually be on the lookout for certain things, and you must also meet some conditions. Due to the value of mortgage loans, the lender usually requires that it’s a secured loan. So, what do borrowers use to secure a mortgage loan?
The borrower uses the house they buy to secure mortgage loans. This is why lenders require credit score and proof of income. There are pros to secured loans, such as lower interest rates, better terms, and a higher chance of approval. But the lender could repossess the property if there’s a default.
However, the lender makes sure the property is worth more than the debt by appraising it before approval. Here, we discuss what borrowers use as collateral to secure a mortgage loan.
How To Get Home Mortgage?
Before getting a mortgage loan, you need to find a lender. You can easily locate one online or by asking those close to you. After finding the lender, you’ll need to provide crucial information. The most important are:
1. Credit Score
The best way to get more credit is to have good credit. With home mortgages, the lender will check your credit score to see if you can borrow the amount you want. The higher the credit score, the better. A credit score proves your creditworthiness and can help you prove that you’re capable of repaying the loan. Most times, the credit score can influence the kind of deal you’ll get from a lender. A poor credit score means that the lender is taking on more risks, and they’ll, in turn, charge a higher interest rate for that.
It’s important to have a source of income before applying for a mortgage. The lender will want proof of income, usually a pay stub for the last three months. But some lenders ask for a letter of reference from the employer to be on the safer side.
What Is a Collateral for Mortgage Loan?
A mortgage is a secured loan. This means it’s a loan backed by another asset. In the case of default of the borrower, the lender can take the asset and use it to repay the loan. This asset is known as collateral. For mortgage loans, the collateral is the house bought with the mortgage. So, if the borrower stops loan repayment before the mortgage ends, the lender has the right to repossess the house and foreclose it.
A loan is secured when the loan’s value is lower than the property used for collateral. This applies to mortgages because the borrower would have paid part of the loan. Not only that, but they’d also have paid a down payment on the property, which is usually 20% of the loan’s value.
Pros of Collateral
Putting up collateral for mortgages has several advantages, such as:
1. Better Chance of Approval
Lenders will give mortgage loans because they can justify the risk. They can foreclose an immovable property if the borrower doesn’t pay. This ensures that even if the credit score isn’t so good, there’s still a great chance that the lender will approve the loan.
2. Lower Interest Rate
Interest rates are all about risks. The more risks the lender takes, the higher the interest rate. Since the mortgage loan is secured, the interest rate is usually low relative to general market conditions.
3. More Room for Negotiations
When there’s collateral, there’s more room for negotiation than you can imagine. This still has to do with the risks. The lender has less risk and will be more open to negotiating terms that benefit the borrower. Having more leeway during negotiations can be very important, given how long mortgage loans can last.
Risks of Secured Mortgage Loans
There’s only one risk when you take a mortgage. If you default, you could lose the property and all the money you’ve spent. This means that the house isn’t completely that of the homebuyer during the mortgage term. Instead, you share equity in the property along with the lender. This is why some people opt for mortgages with a shorter duration to have full home equity quickly. When people take mortgages, it’s usually with the intention to pay them back. But many things could happen within the 15 to 30 years of the mortgage.
Importance of Appraisal for Mortgages
An important stage of getting a mortgage is the appraisal. Before the lender approves the mortgage, they want to ensure that the home you’re buying is worth the amount you’re borrowing. The insurer also wants to know the value of the home they’ll insure. An appraisal is how they determine this value.
Some professionals appraise the property and determine if the value attached is reasonable based on the home’s location, amenities, and condition. On most occasions, the seller will also appraise the property before listing it for sale. But the lender conducts their independent appraisal.
The appraisal will consider several factors such as the recent sale of similar homes in the area, home condition and location, potential rental income, etc. It’s a comprehensive process, and the appraiser has to be unbiased even though the lender commissioned them. The appraisal report goes to the lender, but the borrower will receive a copy.
What to do in Case of Variation in Appraisal Value and Selling Price
If there are variations between the appraisal valuation and what the seller wants for the house, it could frustrate the mortgage process. This applies mostly when the appraisal is lower than the contract price. But it’s not all bad news. Such a thing presents an opportunity to renegotiate with the seller and ask them to reduce the selling price.
It’s easier to convince the seller when you have the appraisal because no other buyer will likely pay the cost they’re demanding. Of course, you might decide to cover the extra cost between the appraisal valuation and contract price. You can also opt to dispute the valuation of the appraisal. Due to the various appraisal methods available, it’s possible that the method fell short of getting the property’s true value.
When a borrower takes on a mortgage, they secure the loan using the house they’re buying with the mortgage. This means that failure to repay the loan could result in losing the house. But there are several benefits to secured loans like this.