Important Lending Terms
There's a brand-new language awaiting you in the world of real-estate finance. Learn the meaning of important terms before you go shopping for a loan so that you'll understand the information well enough to ask questions on the spot, while the details are still fresh in your mind.
Amortization
An amortized loan is one where the regular payments include an amount for the current interest that is due on the loan and an amount that is applied to the principal balance of the loan. Negative amortization takes place when the amount of the monthly payment isn't enough to cover the interest, so the unpaid interest is tacked on to the principal balance each month,
The only good thing about negative amortization loans is that payments are lower and can help increase your cash flow (how much cash you have available to invest in other properties). Reserve this type of mortgage for properties you plan to sell or refinance right away and for properties purchased for a price below market value or located in an area of quickly escalating values.
Balloon Mortgage
Balloon loans are loans in which the full balance is due at some future date. You might make regular monthly payments that are calculated based on a longer time period, but at some point those payments stop, and the full balance becomes due.
For instance, you buy a property and the monthly payments are calculated the same way they are for a typical thirty-year loan. But instead of paying the loan for that length of time, the balance becomes due in five years.
Balloon mortgages are risky unless you are sure that on the due date you will have either the cash to make the full payment or another loan to take its place.
Real estate finance is an ever-changing field. New types of loans and guidelines for existing loans change constantly to meet the needs of borrowers. Find a loan officer whose opinions you value, and work with that person to gain an understanding of the loans that apply to the types of properties you wish to buy.
Mortgage and Deed of Trust
Remember, a mortgage isn't technically a loan. It is a security instrument, a document that says the property being purchased is collateral for the loan. When you take out a mortgage on a house, that house is the collateral for the money you borrowed to purchase it.
When combined with a promissory note — your promise to pay — the mortgage creates a lien (the legal right to keep or sell somebody else's property as security for a debt). If you do not fulfill your promises to repay the loan or adhere to other terms of the agreement, the lender can foreclose and take the property.
A deed of trust is a special kind of deed that gives someone temporary, limited title to a property. It serves the same purpose as a mortgage, but it is easier to foreclose.
Both types of documents give the lender the right to take back a property if you do not make payments on the loan or fulfill other obligations, such as paying your taxes or hazard insurance. Read more about both types of security instruments, and how they affect your deed, in Chapter 13.
Prepayment Penalty
Some loans have a prepayment penalty clause, charging you a fee if you pay off the loan before a stated date. Investors usually avoid loans of this type if they plan to resell a property, but you should evaluate the other terms of the loan to decide if the benefits override the negatives of paying a penalty.
Due-on-Sale Clause
The due-on-sale clause is a loan condition that kicks in when you transfer ownership of a property to another person. If the lender finds out you've sold the property, the lender can demand that you pay the remaining balance that's due on the loan. Not all real-estate loans have due-on-sale clauses.
