Adjustable-Rate Mortgage (ARM)

An adjustable-rate mortgage (ARM) is a type of home loan where the interest rate fluctuates over time based on a predetermined financial index. Initially, ARMs typically offer a lower fixed interest rate for a set period (e.g., five years for a 5/1 ARM), after which the rate is adjusted periodically (e.g., annually). The adjustments are influenced by market interest rates, which means monthly payments can increase or decrease over time.

Annual Percentage Rate (APR)

The APR is a comprehensive measure of the cost of borrowing, expressed as an annual percentage. It includes not just the interest rate but also additional costs like mortgage insurance, discount points, loan origination fees, and other lender-imposed charges. Since the APR reflects the total cost of the loan, it allows borrowers to compare different loan offers effectively.

Appraisal

An appraisal is a professional assessment of a property's market value, conducted by a licensed appraiser. Lenders require an appraisal to ensure that the home’s value justifies the loan amount. The appraised value helps determine the maximum amount a lender is willing to finance.

Assessed Value

The assessed value is the dollar value assigned to a property by a local government tax assessor for the purpose of calculating property taxes. It may differ from the market value determined by an appraisal.

Assumable Loan

An assumable loan allows a homebuyer to take over the seller’s existing mortgage, including its terms, balance, and interest rate. This can be advantageous when market interest rates have risen, as the buyer can assume a lower rate.

Balloon Payment

A balloon payment is a large, lump-sum payment due at the end of a mortgage term. It is typically associated with balloon mortgages, which require smaller monthly payments for an initial period before the large final payment is due.

Cash-Out Refinance

A cash-out refinance replaces an existing mortgage with a new, larger loan, allowing the borrower to take out the difference in cash. This is often used to access home equity for expenses such as home improvements, debt consolidation, or other financial needs.

Conventional Loan

A conventional loan is any mortgage that is not backed by a government agency such as the Federal Housing Administration (FHA) or the Department of Veterans Affairs (VA). These loans typically require higher credit scores and larger down payments than government-insured loans.

Credit Score

A credit score is a numerical representation of a borrower’s creditworthiness, typically ranging from 300 to 850. It is calculated based on factors such as payment history, debt levels, credit age, and recent inquiries. Lenders use credit scores to assess the risk of lending to a borrower.

Debt-to-Income Ratio (DTI)

DTI is a measure of a borrower’s ability to manage monthly debt payments relative to gross income. It is calculated as:

DTI=Total Monthly Debt /Payments Gross Monthly Income x 100 to get percenatge.

Lenders prefer a DTI below 43%, though lower ratios are often required for the best loan terms.

Down Payment

A down payment is the upfront cash contribution a buyer makes when purchasing a home. It is typically expressed as a percentage of the home price. A higher down payment reduces the loan amount and may eliminate the need for mortgage insurance.

FHA Loan

An FHA loan is a mortgage insured by the Federal Housing Administration. It is designed for borrowers with lower credit scores or smaller down payments. FHA loans typically require a minimum down payment of 3.5% and include mortgage insurance premiums (MIP).

Fixed-Rate Mortgage

A fixed-rate mortgage has an interest rate that remains constant for the entire loan term (typically 15 or 30 years). This ensures that the borrower’s principal and interest payments remain predictable, although property taxes and insurance costs may change.

Flood Certification

A flood certification is a document that determines whether a property is located in a designated flood zone. If the property is in a high-risk area, lenders may require the borrower to purchase flood insurance.

Good Faith Estimate (GFE)

A Good Faith Estimate (now replaced by the Loan Estimate) was a document that provided borrowers with an itemized list of expected loan costs. It allowed borrowers to compare offers from different lenders.

Hazard Insurance (Homeowners Insurance)

Hazard insurance, commonly called homeowners insurance, protects the borrower and lender against financial loss due to property damage from hazards such as fire, theft, or storms.

Home Equity Line of Credit (HELOC)

A HELOC is a revolving line of credit secured by the homeowner’s equity. The borrower can draw funds as needed, similar to a credit card, and make payments based on the outstanding balance. Interest rates are typically variable.

Home Equity Loan

A home equity loan is a second mortgage that allows a homeowner to borrow a lump sum against their equity. Unlike a HELOC, this loan has a fixed interest rate and structured repayment terms.

Home Inspection

A home inspection is a detailed evaluation of a property’s condition conducted by a licensed inspector. While not always required by lenders, inspections help buyers identify potential issues before purchasing a home.

Homeowners Insurance

Homeowners insurance provides financial protection against losses due to damage, theft, or liability. Mortgage lenders require borrowers to maintain homeowners insurance for the duration of the loan.

Interest Rate

The interest rate is the cost of borrowing money, expressed as a percentage. It may be fixed (unchanging) or variable (adjusting periodically based on market conditions). The interest rate significantly impacts the total cost of a loan.

Jumbo Loan

A jumbo loan is a mortgage that exceeds the conventional loan limits set by the Federal Housing Finance Agency (FHFA). Because they do not conform to government-backed guidelines, jumbo loans typically have stricter qualification requirements.

Loan Estimate

A Loan Estimate is a standardized document that lenders must provide to borrowers within three days of receiving a loan application. It details key loan terms, costs, and estimated monthly payments, helping borrowers compare loan offers.

Loan-to-Value Ratio (LTV)

LTV is the ratio of the loan amount to the appraised value of the property, expressed as a percentage:

Current loan balance ÷ Current appraised value = LTV

Higher LTV ratios indicate higher risk and often require mortgage insurance.

Mortgage

A mortgage is a legal agreement in which a lender provides funds to a borrower to purchase a home, with the property serving as collateral. If the borrower fails to repay, the lender can foreclose on the property.

Mortgage Company

A mortgage company can be a lender or a broker. A lender directly provides mortgage loans, while a broker facilitates loan transactions by connecting borrowers with lenders.

Mortgage Insurance (PMI & MIP)

Mortgage insurance protects lenders against borrower default. Private mortgage insurance (PMI) is required for conventional loans with down payments below 20%. FHA loans require mortgage insurance premiums (MIP) for the life of the loan.

P&I (Principal & Interest)

P&I refers to the two main components of a mortgage payment: principal (the loan amount) and interest (the cost of borrowing). It does not include taxes or insurance.

PITI (Principal, Interest, Taxes, and Insurance)

PITI includes the total monthly mortgage payment components: principal, interest, property taxes, and homeowners insurance. Some lenders also collect escrowed funds for these expenses.

Preapproval Letter

A preapproval letter is an official document issued by a mortgage lender that indicates a borrower has been conditionally approved for a home loan up to a specified amount. This approval is based on an initial review of the borrower’s creditworthiness, income, assets, and debt obligations. While not a final loan commitment, a preapproval letter signals to sellers and real estate agents that the borrower is financially capable of securing financing, strengthening their position in the home-buying process.

Rate Lock Period

A rate lock period is the timeframe during which a lender guarantees a specific interest rate for a borrower, protecting them from market fluctuations. Typical rate lock periods range from 30 to 90 days, though extensions may be available for an additional fee. If interest rates decrease during the lock period, some lenders may offer a float-down option, allowing borrowers to secure the lower rate under certain conditions.

Refinance

A refinance is the process of replacing an existing mortgage with a new loan, typically to secure a lower interest rate, change the loan term, or access home equity. The new mortgage pays off the remaining balance of the original loan, and the property continues to serve as collateral. Homeowners refinance to reduce monthly payments, consolidate debt, or switch from an adjustable-rate mortgage (ARM) to a fixed-rate loan.

Term

A mortgage term refers to the length of time over which a borrower agrees to repay a loan if only the required minimum payments are made. The most common mortgage term in the U.S. is 30 years, but other options, such as 15-year and 20-year loans, are also available. Shorter terms typically result in higher monthly payments but lower total interest costs over the life of the loan.

Underwriting

Underwriting is the lender's process of assessing a borrower's financial profile to determine whether they qualify for a mortgage. This involves evaluating credit history, income, employment stability, debt-to-income ratio (DTI), assets, and the appraised value of the property. Underwriters assess risk based on lending guidelines and either approve, deny, or request additional information before making a final loan decision.

Uniform Residential Loan Application (URLA) – Form 1003

The Uniform Residential Loan Application (URLA), also known as Form 1003, is the standardized document used by lenders to collect essential borrower information when applying for a mortgage. It includes details on income, employment history, assets, liabilities, and the property being financed. Lenders use this form to assess the applicant’s financial standing and determine loan eligibility.

USDA Loan

A USDA loan is a mortgage program backed by the U.S. Department of Agriculture (USDA), designed to promote homeownership in rural and suburban areas. These loans offer low to no down payment options and are available to borrowers who meet income and geographic eligibility requirements. USDA loans generally have lower interest rates and reduced mortgage insurance costs compared to conventional loans.

VA Loan

A VA loan is a government-backed mortgage program offered by the U.S. Department of Veterans Affairs (VA), available to eligible military service members, veterans, and their spouses. VA loans offer competitive interest rates, no down payment requirements, and no private mortgage insurance (PMI). The program is designed to make homeownership more accessible to those who have served in the military.

Mortgage Terms To Know During the Loan Process

Prepayment Penalty

A prepayment penalty is a fee charged by some lenders if a borrower pays off their mortgage early (either through refinancing, selling the home, or making extra principal payments beyond a set limit). Prepayment penalties compensate lenders for lost interest earnings. However, most modern loans do not include prepayment penalties, especially those backed by federal agencies such as FHA, VA, and USDA loans.

Principal

Principal is the amount borrowed in a mortgage, excluding interest and other fees. Each mortgage payment reduces the principal balance, gradually lowering the amount owed. As the loan matures, an increasing portion of each payment is applied to the principal.

Principal and Interest (P&I)

Principal and Interest (P&I) are the two core components of a mortgage payment:

  • Principal reduces the amount borrowed.

  • Interest compensates the lender for financing the loan.

Most mortgages follow an amortization schedule, where early payments primarily cover interest, while later payments contribute more to the principal, accelerating the loan payoff.

Property Taxes

Property taxes are taxes levied on real estate by local governments, such as municipalities or counties, to fund public services like schools, infrastructure, and emergency services. The tax amount is based on the assessed value of the property and varies by location. Many lenders collect property taxes as part of the mortgage payment and hold the funds in an escrow account to ensure timely payment.

Real Estate Settlement Procedures Act (RESPA)

The Real Estate Settlement Procedures Act (RESPA) is a federal law enacted in 1974 that mandates full disclosure of all costs and fees associated with real estate transactions. RESPA aims to protect homebuyers from unnecessary fees, hidden costs, and unethical lending practices. It also requires lenders to provide borrowers with key documents, such as the Loan Estimate and Closing Disclosure, ensuring transparency in the mortgage process.

RESPA

See Real Estate Settlement Procedures Act.

Title

A title is a legal document that establishes ownership rights to a property. A clear title means there are no existing liens, legal disputes, or claims against the property. When purchasing a home, a title company conducts a title search to confirm the seller’s legal right to transfer ownership to the buyer.

Title Insurance Policy

A title insurance policy protects homebuyers and lenders from potential losses due to disputes over property ownership or unknown claims against the title. Title insurance covers issues such as fraudulent ownership claims, undisclosed liens, and clerical errors in public records. Lenders typically require title insurance to protect their financial interest in the property.

Title Search

A title search is a detailed examination of public records conducted by a title company or attorney to verify a property's legal ownership and discover any outstanding claims, liens, or legal encumbrances. This step ensures that the seller has the legal right to transfer ownership to the buyer.

Walk-Through

A walk-through is the final physical inspection of a property conducted by the buyer before closing on a home purchase. This process allows the buyer to ensure that the home is in the agreed-upon condition, that repairs (if any) have been completed, and that no new issues have arisen since the initial home inspection.

Warranty Deed

A warranty deed is a legal document that guarantees a property’s title is free of liens, debts, or legal claims. By signing a warranty deed, the seller ensures that they have full ownership rights to the property and can legally transfer it to the buyer. This type of deed provides strong buyer protection compared to other forms of property transfer.

Wire Transfer

A wire transfer is an electronic method of sending funds between financial institutions. In real estate transactions, wire transfers are the preferred method for securely transferring large sums of money, such as down payments or closing costs, to complete a property purchase. Wire transfers are fast and reliable, ensuring funds are available for settlement at closing.

Amortization

Amortization is the structured process of gradually reducing the outstanding balance of a mortgage through scheduled periodic payments. Each payment consists of both principal (the amount borrowed) and interest (the cost of borrowing). Over time, a larger portion of the payment is applied to the principal, accelerating loan payoff. Amortization schedules ensure full repayment by the end of the loan term, assuming all required payments are made.

Cash to Close

Cash to close refers to the total amount a homebuyer must bring to the closing table to finalize a real estate transaction. This includes the down payment, closing costs, prepaid expenses (such as property taxes and homeowners insurance), and any lender-required fees. The final amount due is detailed in the Closing Disclosure provided before settlement.

Closing

Closing is the final stage of a real estate transaction, where ownership of the property is legally transferred from the seller to the buyer. During closing, all necessary documents are signed, and funds—including the loan proceeds and cash to close—are distributed. Closings typically take place at a title company, attorney’s office, or escrow company.

Closing Costs

Closing costs encompass all fees associated with the purchase of a home that must be paid at closing. These costs include:

  • Loan origination fees (charged by the lender for processing the mortgage)

  • Title search and title insurance (ensuring legal ownership)

  • Appraisal fees (assessing the property’s market value)

  • Escrow fees (holding funds for taxes and insurance)
    Closing costs typically range from 2% to 5% of the home’s purchase price and may be covered by the buyer, seller, or negotiated between both parties.

Closing Statement

A closing statement is a detailed, itemized breakdown of all costs associated with the transaction, specifying amounts paid by both the buyer and seller. The document provides transparency in financial obligations and includes loan charges, taxes, insurance, and escrowed funds. It is now typically incorporated into the Closing Disclosure required by federal law.

Date of Possession

The date of possession is the agreed-upon date when the buyer legally takes ownership and gains the right to occupy the property. While possession usually occurs on the closing date, in some cases, the seller may negotiate a post-closing possession agreement, delaying the buyer’s move-in.

Default

A borrower is in default when they fail to make scheduled mortgage payments according to the loan agreement. Defaults may also occur due to violations of other loan terms, such as failing to maintain homeowners insurance. If a borrower remains in default for an extended period, the lender may initiate foreclosure proceedings.

Discount Points

Discount points are optional, upfront fees paid by a borrower to reduce the interest rate on a mortgage, effectively lowering monthly payments. One discount point is equivalent to 1% of the loan amount. Points benefit borrowers planning long-term homeownership, as the savings from a lower rate accumulate over time.

Escrow

Escrow refers to a financial arrangement in which a neutral third party holds and manages funds on behalf of a buyer and lender. Common uses include:

  1. Escrow for closing – A secure account used to hold earnest money before the transaction is finalized.

  2. Escrow for taxes and insurance – Lenders collect monthly contributions toward property taxes and homeowners insurance, which are held in an escrow account and disbursed when payments are due.

Foreclosure

Foreclosure is the legal process through which a lender reclaims a property when the borrower fails to meet mortgage obligations. This typically involves selling the home to recover the outstanding loan balance. Foreclosure may result in eviction and a negative impact on the borrower’s credit, making future loan approvals more difficult.

Origination Fee

An origination fee is a charge imposed by a lender for processing a new mortgage loan. It typically covers administrative costs such as application processing, underwriting, and document preparation. Origination fees are usually calculated as a percentage of the loan amount, commonly 0.5% to 1%.

Prepaids

Prepaids refer to expenses that must be paid at closing before they are due, ensuring the borrower is covered for future costs. Common prepaids include:

  • Property taxes (covering the first few months post-closing)

  • Homeowners insurance (typically required for at least one year upfront)

  • Mortgage interest (covering interest on the loan between closing and the first monthly payment)

Mortgage Closing Terms You Should Know