Basic Info

Simply put, a mortgage is a loan taken out in order to purchase a piece of real estate. The property being paid for acts as collateral for the loan. Most people aren’t able to purchase a home and pay the entire cost up front. As a solution, you can take out a mortgage loan that allows you to pay for the principal cost of the real estate over a longer period of time along with interest.

The two most common types of mortgages are fixed rate (FRM) and adjustable rate mortgages (ARM) also known as floating rate or variable mortgages. In a fixed rate mortgage, the interest rate and payment period stay constant for the entire life of the loan. Although other costs such as insurance and property taxes will fluctuate, the amount of payment for the loan will stay the same. In an adjustable rate mortgage the interest rate will fluctuate depending on various market indexes. In an ARM, part of the interest risk is transferred from the lender to the borrower which allows for a lower initial interest rate. Many mortgages are a combination or fixed and adjustable rates; a mortgage loan can sometimes have a fixed interest rate for a preliminary set period of time and afterwards become a floating rate.

The principal is the original amount of money borrowed, typically the base price of the home being mortgaged. Usually, lenders require lendees to put down a larger initial sum called a down payment that goes towards the principal. The larger the down payment is, the smaller your monthly and annual mortgage is.

Interest is the amount of money a lender charges someone in order to borrow money. The interest is usually expressed as a percentage of the principal amount. A borrowee must not only pay back the original price of the property, but the accrued interest as well.

Compounding is a term used to describe when interest payment is collected on both the principal and the interest paid in the past. A compound interest rate is compounded at the end of every period. Unlike simple interest rates, compounding isn’t always done annually, compounding periods can be daily, weekly, and monthly as well. The shorter the compounding period, the larger the collected interest becomes.