Essentials of Mortgage Agreements: A Guide

All About Mortgage Agreements

Mortgage legalese can be pretty thick at times. For the average reader – and even many beyond that category – these confusing external tough-guy terms don’t alter the fact that you are, essentially, signing a piece of paper promising to pay back the money that financed your home. Nevertheless, as a decision of such import with such far-reaching implications, it’s good to have some understanding of what your mortgage agreement actually says, as well as why it says it. That’s where this entry comes in – we’re going to provide you with some basic insights into the types and roles of different mortgage agreements.
First off, it is important to understand exactly what a mortgage agreement is. A mortgage agreement is essentially the bank giving you money towards the purchase of a house. You agree – via the terms of the mortgage – to pay the bank back. In legal terms, the mortgage is a contract between you and the bank. Specifically, it’s a contract that allows the bank to into your house if you don’t pay them back, which makes mortgages more like loans than otherwise.
Mortgage contracts fall into two main categories: fixed-rate or adjustable-rate. It’s not too hard to guess that a fixed-rate mortgage agreement means you’re locked in at a particular interest for the life of the loan . On the other hand, with an adjustable-rate mortgage agreement, your interest fluctuates throughout the life of the loan based on a predetermined index.
ARM contracts typically start at a low introductory rate, like three percent. This low intro rate increases to a new, higher rate once a certain pre-agreed upon period elapses, like five years or 20 years, you get the picture. Adjustable-rate agreements are very attractive to buyers with low incomes because the low initial rate makes monthly payments much lower at first, which is obviously crucial to those on tight budgets. After the interest rate increases, though monthly payments may also increase, with the proper financial management they could still prove affordable.
When it comes for mortgage shopping, the most important thing to realize is the difference between rate and APR. "The rate is the loan’s interest," explains Business Insider explaining the concept. "The APR, or annual percentage rate, also includes the points you pay and some of the fees, which could give you a truer cost of the loan." In other words, buyers should never trust just the rate, they should always be looking at the APR. Not only does that get you the better deal, but it also grants the lender the ability to hide kerf fees and costs into what might seem to be an under market rate. Better safe than sorry, right?

Main Terms of a Mortgage Agreement

At its core, a mortgage agreement serves to define the boundaries of the relationship between a borrower and lender. To that end, a mortgage agreement generally covers (1) the principal loan amount, (2) interest rates, (3) terms, and (4) conditions.
At the outset, a mortgage agreement will describe how much money is being lent to the borrower by the lender. While some generally accepted conventions exist for describing this amount, the precise language used is not as important as being able to define the loan and the boundaries of risk for both the borrower and the lender.
The interest rate, or cost of borrowing money, is typically intertwined with principle loan agreements to define the total aggregate amount to be paid back by a borrower. Interest rates also define whether the loan is fixed or variable. For fixed loans, the principal amount is paid back according to a pre-determined plan by the loan agreement. The series of payments is calculated according to the amount owed at the time of each payment and at the interest rate set by the loan agreement.
Variable loans are essentially resets of the interest rate at regular intervals after the loan is issued. This means that the distribution of principal and interest may change over the course of the loan, and in ways that vary by standard then market convention. Variable loans are more difficult to predict than fixed loans, and can lead to debt rollover if borrowers are not careful to manage their repayment of principal.
Mortgages have a grace period allowing the borrower to make a late payment without penalty. Grace periods are generally defined in a percentage of time after the due date by the loan agreement. Of course, late payments generally accrue fees that increase over time after a payment is missed. These fees, however, can rarely go over a certain amount defined in state law.
Mortgage agreements can also describe acceleration procedures. Acceleration is a process under which a borrower’s debt to a lender is made due in full whenever there is a default. Acceleration can be mitigated by cure provisions that allow a borrower to avoid acceleration by repaying the missed amount by a certain period of time, and payoff provisions that allow a borrower to avoid acceleration by paying the missed amounts and interest as calculated from the date of the default.
Default, covenants, and indemnity provisions are included to describe the events that trigger acceleration. Default provisions describe the obligations that debtors have to lenders, and the conditions under which those obligations are considered breached. The covenants of a mortgage agreement define what a borrower must do during the life of the loan, and the indemnity provisions in a mortgage agreement define the conditions under which a lender may sue a borrower for the costs associated with enforcing the provisions of the loan.

Different Types of Mortgage Agreements

Mortgage Agreements come in all shapes and sizes. Aside from the obvious difference of whether you will own the property outright or not, there are several different types that you could consider when purchasing a property. "But what’s the right type for me?" you might ask. Well, this depends on the answer to a number of factors – your net income versus your outgoings after securing the property, your current marital/relationship status, whether your partner is already paying off their own property, what kind of property you are buying and where it is located, and essentially, how your finances stand… a good idea is to speak to a mortgage adviser, solicitor and/or other property professionals before making any decisions. Here are a few options: Fixed Rate Mortgage Agreements: fixed rate mortgage agreements are basically as they sound – fixed rates that lock in your repayments for a set period of time… generally 1-5 years. After this, the rate will be at the lenders’ discretion and tend to go up. These are generally seen as cost-effective options in the short-term, so if you are looking for a five-year plan this could work for you. Pros: fixed rates boost budgeting and protect from increases until the end of the ‘fixed’ period; loan approvals are frequently disbursed faster because a borrower has less information to provide to the lender; this option provides certainty when saving for a deposit – so you then know exactly how much you will repay after the initial ‘fixed’ period expires. Cons: fixed rates usually carry higher interest rates than discounted rates, which means over time, and when the ‘fixed’ period has expired, if no better rates are offered they will tend to be more expensive… just like in the example listed above. Discounted Rate Mortgage Agreements: these are similar to fixed rates, as they too are fixed for a period of time, but generally have lower interest rates. These are cheaper when the variable rate is below the standard variable rate at the time, but can change with or without warning once time is up. Pros: lower rates and a flexible setup without the need to take out another fixed-rate mortgage (unlike with fixed rates, this period can be extended twice); the lower the interest, the more likely the lender can afford to subsidise. Cons: if rates are low or it is an economic problem, there is a tendency for lenders to try and recoup their money and that can mean high rises to variable rates after the ‘discount’ period ends. Standard Variable Rates: these are subject to change without notice if the Reserve Bank of Australia opts to hike prices. If rates are low due to economic issues, lenders often use this as an opportunity to boost profits by increasing their fees… so if something is cheaper than before, it is only natural that the provider will try to make it the same (if not higher) as its competitors. Pros: rates are less likely to go up if the risk is spread across more property agreements; customers are not tied into a contract (there is no ‘fixed’ term) and can easily switch to lenders with better rates overseas; ebbs and flows mean that customers have less to pay in downtimes, but only if lenders choose to do that, which they may not in the future as the Australian economy cycles as we have previously seen. Cons: lenders usually increase variables because they have a stricter profit target to meet – therefore this option is costlier and more unpredictable in the long run; as they are compelled to meet profit targets and interest rates rise and fall, during the times when they are high customers will be paying more than they should in a free market; and if borrowers chose to pay the minimum amount, they pay more interest and fees over time than if they chose to fix their rates and put some money away while the rate is low.

Legality of Signing a Mortgage Agreement

Both parties, the lender and the borrower, are bound by the contract signed in a mortgage agreement. While all contracts create legally enforceable obligations, for borrowers, as parties to mortgage contracts, the legal implications are especially onerous as their default can lead to loss of a home.
For the lender, the lender is obligated to disburse the loan to the borrower on the terms of the contract. A failure to do so can lead to liability on the lender’s part for breach of contract. There is also a duty of care and good faith that is implicit in every mortgage contract between a lender and borrower such that the lender must ensure that there is no improper lending to the borrower or misrepresentation about the loan to the borrower.
For borrowers, the borrower is obligated to follow the terms of the mortgage, otherwise the disbursement of the mortgage can be considered in default. In every mortgage, there is an implied term that the borrower must repay the mortgage and pay interest according to the terms of the contract. The high legal consequences of defaulting on a mortgage have created several defences for borrowers who default and lenders also have several obligations towards borrowers to ensure a fair process is followed by both the borrower and the lender.
In the next section we discuss the importance of knowing what you are signing and the terms contained in the contract of a mortgage disbursement.

Pitfalls in Mortgage Agreements

Bound by time constraints, many people will often rush themselves through the process of signing mortgage agreements. Despite the fact that mortgages are binding contracts that obligate them to pay a significant amount of money each month, some will simply skim through the pages and sign without reading the details. Even a single missed detail can make a huge difference to their mortgage. Here are three common mistakes to avoid when signing mortgage agreements:
Not knowing their interest rate type
While most homeowners are aware of their interest rate, they may not know if it is fixed or adjustable — which has major implications for the monthly payments and the overall cost of the mortgage. With fixed interest rates, the rates stay the same throughout the mortgage term, meaning that the interest, which is adjusted monthly, will not increase. Adjustable rates, on the other hand, are subject to change if the market fluctuates . Therefore, consumers should verify whether their mortgage interest rate is fixed or variable and also ask about its history. Successive increases could be a red flag.
Not fully understanding early payoff penalties
Consumers frequently sign contracts before understanding the early payoff penalty and are shocked years later when they want to pay off their mortgage and find they have to pay a huge sum simply to end the agreement. Having an understanding of the early close fee will help them ensure they are able to pay off their mortgage without incurring an untenable cost.
Ignoring their credit score
Most mortgage agreements are for significant amounts of money and often put strain on the consumer’s finances. As such, consumers should always verify their credit rating prior to signing a mortgage agreement, as it may have increased or decreased since they last checked. A consumer whose credit score has dropped significantly may not qualify for an affordable interest rate, making the mortgage financially stressful.

How to Get a Better Deal in a Mortgage Agreement

When it comes to mortgage agreements, negotiating better terms can potentially save a borrower thousands of dollars and make repayments more manageable. However, not everyone knows how to negotiate effectively with lenders to achieve these objectives. Follow these guidelines to help you secure better mortgage terms:

• Do your research. Become familiar with the market and how it affects the rate you will pay. Look at what other lenders are offering. Getting a good idea of what you should be dealing with gives you leverage to negotiate down from the lender’s opening offer.
• Obtain at least four quotes. Don’t settle for the first offer from a lender — shop around as you would for any other major purchase. Get quotes from major national lenders, as well as community banks or credit unions, and look online (but beware of hidden fees) and in newspapers, magazines and websites that compare rates on mortgages. Once you have the quotes, look closely at the APR to better identify the offer that costs the least over time.
• Look for loan points you can afford to buy. Points are fees paid to lenders to lower the interest rates on the mortgage loan. One point equals 1 percent of the total loan amount. Buying points lowers your monthly mortgage payment because it lowers the interest rate on the loan. But it also increases the amount of cash you have to pay upfront.
• Avoid early repayment penalties. If you go into the loan assuming that you are going to refinance, sell or fully pay off the loan early, you’ll want to avoid having to pay an early repayment penalty. Pay attention to any repayments about double-digit interest increases, as well as interest-only periods.

Mortgage Agreements FAQ

Consumers often have many questions when approaching the process of seeking a mortgage agreement. Here are answers to some of the most common:
What are the most important things to consider when signing a mortgage agreement?
Consumers will want to consider all of the terms associated with any mortgage agreement that is offered. The annual percentage rate (APR) should be of particular concern, as this is the total interest charged, and can be fixed or variable, but is typically the same for the entire term of the loan.
Home buyers will also consider the monthly payment, which breaks down how large the borrower’s monthly stipend will be into a set amount of principle, interest, taxes and insurance. The monthly payment is based on the cost of the home, minus the down payment and plus interest.
Is it best to go with a fixed-rate mortgage or a variable-rate mortgage?
While predetermined rates tend to be higher, they allow consumers to lock in the same amount for the entirety of the loan, which means that payments won’t suddenly increase later on during the repayment period. Variable rates, on the other hand, are typically lower , but can increase as the market changes, which could ultimately make the repayment more expensive.
What are my options if I can no longer afford to pay back the loan?
In some cases, judges can approve the short sale of a home, at which point lenders work with their clients to place the lienholder in the second position on the home’s loan, allowing for the bulk of the first loan to be discharged. The lender will then offset the loss with a tax write-off.
One way consumers can avoid short sales is by obtaining mortgage forbearance, which is where the banker or financial institution agrees to temporarily suspend mortgage payments until the borrower can recover from their financial woes. Letter of foreclosure notice is served when a borrower starts defaulting on their mortgage payments.
A deed in lieu of foreclosure can also prevent the bank or financial institution from having to go through the foreclosure process. This does not eliminate the debt, but it will return the home to the lienholder.
Mortgage agreements can be complex, but being informed about the process makes it easier for consumers and lenders to understand their options.