For many, owning a home is part of their lifetime dream. And getting a mortgage is just one of the steps it takes to get there. Taking out a mortgage is one of the most significant financial decisions you’ll make, so it’s essential to understand what you’re signing up for when you borrow money to buy a house.
What are the types of mortgage loans? Should you choose an open or a closed mortgage? If you are wondering how to get started, we have covered all the mortgage basics, including loan types and five things to consider while taking out a mortgage, so read until the end.
Learn more about different types of mortgages as you weigh your options and choose the mortgage that meets your needs.
What Is A Mortgage?
A mortgage is a type of loan obtained from a lender to assist you in paying off your home. You generally finance only a portion of the actual cost when purchasing a property. The sum you pay upfront is referred to as the down payment or deposit. So, you need a lender to fund the remaining costs of purchasing the property.
Mortgages are typically legally binding agreements between a lender and a borrower. It details the loan’s conditions and is secured by real property, such as a house.
If you don’t pay back a secured loan, the lender has the right to reclaim your home, so you need to pay the mortgage on time to honour the legal agreement.
Types of Mortgages
When finalizing a mortgage loan agreement, remember to consider your specific circumstances since this might have substantial financial ramifications in the short term. Once your home mortgage has been approved, a key question remains: Do you need an open or closed loan?
Open Mortgage
You can pay an open mortgage in whole or in part without incurring any penalties. Borrowers with fully open mortgages can pay a premium at any moment during the loan’s term, in addition to their regular payments.
Fully open mortgages have higher interest rates since the borrower can repay the loan at any moment. The term for an open mortgage is typically five years.
Fully open mortgages have higher interest rates since the borrower can repay the loan at any moment. The term for an open mortgage is typically five years.
Closed Mortgage
In a closed mortgage loan, you agree to pay the same amount of money every month for a set amount of time. A closed loan allows the borrower to select a fixed or variable rate based on their requirements.
5 Points To Consider Before Choosing The Correct Type of Mortgages
Your loan officer will present you with many possibilities when looking for a mortgage. Make sure you’re familiar with the alternatives and details. This will assist you in selecting the mortgage that best matches your requirements.
As both open and closed mortgages have distinct qualities, we listed the following points that you need to consider while choosing the appropriate mortgage option for your specific needs.
Mortgage Term
The mortgage term refers to the duration of your loan agreement, which lays down the terms, including the interest rate. For example, the contract length might range from a few months to five years or more.
A short-term open mortgage is ideal for those who aim to sell the house shortly. On the other hand, a closed mortgage is for the longer term and maybe a better alternative if you prefer to settle down in your place in the future.
Amortization
Amortization is the period required to repay your mortgage completely. The longer the amortization term, the lower the monthly payments. However, as the amortization time lengthens, interest paid increases.
Accelerated amortization is possible with closed mortgages, but only up to a portion of the loan amount. If you go over this limit, you will be fined, but an open mortgage is not the case.
Interest Rate
Interest is the cost of the loan that you pay to the bank. Your mortgage payments will be high if your interest rate is higher. You renegotiate your interest rate every time you extend the term of your mortgage. This is why your monthly payments may fluctuate over time.
The interest rates on an open mortgage are higher, although it gives more flexibility. A closed mortgage will take longer to pay off, but the interest rate will be cheaper.
Frequency of Payments
It refers to the rate at which you make mortgage installments. Additionally, you can select an expedited payment schedule. This method of payment enables you to make an extra payment each year. Over the life of your mortgage, this might save you thousands of dollars in interest.
While this applies to all mortgages, it is often more suitable for closed mortgages. However, when it comes to closed mortgages, it is in the best interest to first review the criteria specified by your lender.
Refinancing
Mortgage refinancing entails repaying an old loan and replacing it with a new one. One of the compelling reasons to refinance is to decrease your present loan’s interest rate. Refinancing is a smart choice if you can lower your interest rate by at least 2%.
An open mortgage is an excellent alternative if you wish to refinance your mortgage. Refinancing closed mortgages, on the other hand, might be more difficult.
How To Choose The Right Mortgage Type – Open or Closed?
If you meet the following criteria, an open mortgage might be suitable for you:
- Want to pay off the mortgage quickly
- Intend to sell your house soon
- Plan to have some extra cash on hand to pay down your mortgage periodically
A closed mortgage might be a suitable fit if:
- You will stay in your house for as long as you can afford to repay your mortgage
- The prepayment option gives you enough flexibility to make an early payment
Which One Is Best For You?
These decisions aren’t always simple, but you need to do your homework before consulting a bank or lender for a mortgage. Calculate the numbers and see where you stand. Pay attention to the stage of your life you’re in and try to plan for any upcoming financial adjustments.
