For many Americans, the dream of home ownership is only possible due to the existence of mortgage loans. Mortgage loans allow ordinary American families to purchase a home by paying a small amount down and then making monthly payments over an extended term rather than buying the house with a lump sum purchase. Understanding mortgage loans, how they work, and the options available to borrowers can help you make better-informed choices about a home mortgage and whether it is right for you.

What is a Mortgage Loan?

Median home prices in the U.S. are somewhere between $400,000 to $500,000, depending on the region. Some regions offer lower cost options, others higher. Regardless, most people do not have that kind of cash in a savings account. In fact, most U.S. families would be hard-pressed to save that amount to purchase a home. That is where mortgage loans come into play. A mortgage loan allows consumers to borrow a large portion of the home's value, up to 97 percent depending on the type of mortgage, using the home as security for the loan.

This means you can purchase a home by paying a fraction of the costs upfront as a down payment and then paying monthly payments over time to repay the loan balance (plus interest). Most people who wish to purchase a home in the United States today acquire a mortgage.

How Does a Mortgage Loan Work?

Essentially, a mortgage works like any other secured loan. There is a lengthy process in obtaining a mortgage, during which the lender evaluates whether the home's value is sufficient to cover the money you wish to borrow. In addition to assessing the home's value used to secure the loan, the bank will also scrutinize your ability to repay the loan.

This includes information about the following:

• Your credit score and repayment history.
• Your debt-to-income ratio.
• Your income and the duration of your current employment.
• Your credit utilization rate (how much credit is available to you compared to how much you currently utilize – lenders prefer 28 percent or lower credit utilization).

Banks will also consider how much you're willing to risk to make the purchase. People who pay a higher percentage down on the home may experience laxer credit requirements. However, programs are available to help some lenders qualify for a mortgage with lower down payments. However, if you cannot repay the loan, the cost is high, as it will result in losing your home to the lender.

Mortgage Loan Options

Here's where things get really interesting. There are different types of mortgage loans for consumers to consider. Depending on the condition and age of the home, the home's location, and even factors such as the income and veteran status of the buyer, some loan types may offer unique benefits for you.

• Conventional Conforming Loans. These are loans made by private lenders without government guarantees or backing. These mortgage loans have stricter requirements than government-backed loans. If you make a down payment on a less than 20 percent home, you will also have to pay private mortgage insurance to offer additional protection to the lender should you default on your mortgage.
• Non-Conforming Loans. These loans include a variety of government-backed loans designed to help first-time home buyers or those with lower income to purchase a home. They include FHA loans, VA loans, and USDA loans.
• Conventional Non-Conforming Loans. Conforming loans are subject to specific lending limits. As home prices inch higher, more people must seek additional loan assistance in the form of jumbo loans. For these types of loans, 20 percent is the minimum down payment accepted, and credit score requirements are considerably higher than conventional conforming loans.

As you can see, these types of loans work with practically anyone – as long as you meet the minimum credit requirements and make sound homebuying choices that fit within the constraints of your means.

Mortgage Rate Options

There are several different types of mortgage rate options available to borrowers. Here is an overview of the most common options:

• Fixed-rate mortgage. A fixed-rate mortgage offers a fixed interest rate for the entire term of the loan, typically 15 or 30 years. This means that your monthly payments will remain the same for the life of the loan, making budgeting and planning easier.
• Adjustable-rate mortgage (ARM). With an ARM, your interest rate can vary over time, usually based on a specific index such as the prime rate or LIBOR. Typically, the initial interest rate on an ARM is lower than a fixed-rate mortgage, but it can increase or decrease over time, depending on market conditions.
• Hybrid ARM. A hybrid ARM combines a fixed-rate and adjustable-rate mortgage. The interest rate is fixed for an initial period, usually 5, 7, or 10 years, and then adjusts periodically based on the index.
• Interest-only mortgage. With an interest-only mortgage, your monthly payments only cover the interest on the loan, not the principal. This means that your monthly payments will be lower than a traditional mortgage, but you will not pay down the principal balance.
• Balloon mortgage. A balloon mortgage offers a fixed interest rate for a shorter term, typically 5 or 7 years, after which the remaining loan balance is due in a lump sum payment.

It's important to note that each mortgage rate option has advantages and disadvantages, and what works best for one borrower may not be the best option for another. It's essential to consider your financial goals and circumstances when choosing a mortgage rate option.

Benefits

A home mortgage loan is essential for buying a home in today's housing market. The average person cannot afford to purchase a home out-of-pocket and may even need some down payment assistance to buy a home. The home mortgage loan does the following for home buyers.

• Allows home buyers to purchase and live in the home while paying for it over an extended period. Some home mortgage loans have terms of 15, 20, or even 30 years.
• Breaks the homebuying process into bite-size pieces that average consumers can afford.
• Offers programs to help people with fewer means experience the opportunities that home ownership allows.

The benefits are impressive. Of course, exercising caution when taking out a mortgage loan is equally essential.

Drawbacks

There are potential drawbacks to remember so that you don't dive in unaware of the possible pitfalls ahead of you. Consider these thoughts before deciding if a home mortgage loan suits you.

• Home mortgage loans are long-term commitments. Some of them are up to 30 years.
• You will lose your home if you are unable to repay the loan.
• You must keep the house in good repair while repaying the loan.

Different lenders also have different rules about homeowner's insurance, private mortgage insurance, and other protections you must provide to protect their investment in your home.

Using Mortgage Loans Responsibly

Mortgage loans are for large sums of money, and a home purchase is the single most significant investment or purchase the average consumer will ever make. The good news is that most homes gain value over time, and that is, as long as you invest in regular maintenance and upkeep.

While 30 years is a long commitment, becoming a homeowner is an investment in yourself, your family, and your future. Make sure you choose a home within your means to purchase and maintain during that time and prioritize your home payments to ensure you never need to worry about losing your home.