Introduction to Mortgages
Introducing Your Home (and Debt)
A mortgage is a type of loan secured by…your house. Well, technically by you, but it's for your house.
You guarantee to the lender (usually a bank) that you won't skip town with the money they give you for the house, and if you do, the fine print on your loan says that the bank can sell the property to earn back the money.
Why have a mortgage? Well, very few people can afford to pay for a house upfront. Unless your name is Rockefeller or you're into some seriously shady dealings, you're probably going to have to save up just for the down payment (the part of the house price you pay upfront yourself, without the mortgage).
But not to worry: once your pockets are completely empty, you can get a loan and enjoy your own home—complete with broken down water heaters, leaky gutters, and neighborhood dogs pooping on your lawn.
How Much do Mortgages Cost?
Having a mortgage means you don't have to grow old waiting to save up for a home—but you pay for that convenience. The middle of the bell curve for starter homes in the U.S. is about $250,000. An average mortgage might be $200,000 for that house, meaning that you saved up or borrowed $50,000 as a down payment.
If your mortgage rates are 6%, you pay about 12G a year in interest alone. On a 30-year mortgage, you'll make 360 payments, which is ($200K/360) about $555/month for the principal. You're looking at about $1555/month now. And in reality, it's going to be even higher: mortgage insurance (which covers a certain part of your anatomy if you're ever out of work and can't pay your mortgage) is usually a must have.
If you're like most homeowners, your mortgage payments come directly out of your banking account once a month or every other week (pro tip: you'll pay off your mortgage faster if you pay every other week).
After 25 or 30 years or so, the bank sends you a notice that you've paid off the entire mortgage and that you own the house "free and clear." When this happens, you'll probably shriek and dance around like a kid at a concert, throw confetti, and generally terrify the neighbors. That is, if you're not wheelchair-bound in an old age home by then.
Should I Get a Mortgage?
Mortgages can seem scary. You're signing up to pay tens of thousands or hundreds of thousands of dollars in interest on top of the hundreds of thousands of dollars you already owe. You're making a 30-year commitment to your bank when you might not be able to commit to having a salad for lunch.
Should you go for it anyway?
Well, if you want to own your own house without joining the mob, a mortgage is really the only way to do it.
Mortgages also come with a new nifty perks:
(1) They can help you at tax time.
The government wants people to buy houses (it's good for the economy), so they offer tax advantages and deductions for mortgage-holders that renters don't get.
(2) They can improve your credit.
Owing a lot of money is bad news, but having a mortgage and paying it off shows banks that you can handle money—which makes them more likely to lend you cash if you decide to buy a second home, car, or weird monkey.
(3) They give you equity over time.
After a while, you'll have paid off some of that huge debt, or your property value will go up (or both, if you're lucky), and there will be some value in your home.
Let's say that you buy a home with $50,000 in savings and a $200,000 mortgage. After a while, you've paid down some of it, and you now owe $175,000…but hipsters have moved into your neighborhood and have started putting in artisanal hand-knit-from-belly-lint sweater shops and coffee shops on every corner. House prices go up and your home is now worth $300,000. Since the value is higher and you've paid off some of what you owe, the gap between the value and the debt is $125,000. That's your equity.
What can you do with equity? Well, you can borrow against it to start up your own handlebar-mustache-trimming business next door or you can kick back and relax, enjoying the heady, heady feeling of being $125,000 ahead. Your call.
Take out a mortgage you can't afford and it's likely to sink your finances. Get an affordable mortgage, though, and you can be king of the castle (even if your castle is a bungalow in the Valley).