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understanding mortgages

The right mortgage can be the key that opens the door to your dream home. But the terminology surrounding mortgages can be so confusing that choosing the right one can seem like a challenge. The key is to understand the main terms involved — that way, you'll be in a better position to do your research and compare the available mortgage options.

Principal and interest. The principal is the amount you borrow from the financial institution for your mortgage. Typically, it's the difference between the purchase price and the amount of the down payment you make on the property. In addition to the principal, you pay the financial institution interest for the privilege of borrowing the money.

Term. The term is the length of your mortgage agreement, and generally can range from six months to several years.

Amortization. Unlike the term, the amortization period is the number of years it will take you to pay off your mortgage in full — in many cases, 25 years. In other words, you'll probably have a number of mortgage agreements, with each agreement potentially having different terms, during your amortization period. The longer your amortization period, the lower your monthly payments will be. On the other hand, if you shorten your amortization period, your monthly payments will be higher, but you will pay off your mortgage faster.

Fixed rate vs. variable rate. With a fixed rate mortgage, you pay the same interest rate for the entire life of your mortgage agreement. That means:

It's easier to budget for the future, since you know exactly what your interest payments will be.
You don't have to worry about your interest payments increasing because of rising interest rates. Then again, if interest rates fall significantly, you may find yourself paying a rate above those currently available.

With a variable rate mortgage, your interest rate fluctuates with changing interest rates. As a result:

If interest rates drop, so will the amount of interest you pay. That means, if you have fixed payments, more of your monthly mortgage payments will go towards paying down your principal. If interest rates rise, however, so will the amount of interest you pay. Many variable rate mortgages offer you the option of fixed payments.

Open vs. closed. An open mortgage gives you the flexibility to pay off as much of your mortgage as you want, when you want. For instance, if you have the funds available, you could make additional payments on your mortgage and eventually pay off your mortgage more quickly, which could save you thousands of dollars in interest. With a closed mortgage, the interest rate tends to be lower, but stricter conditions apply — particularly with respect to paying off your principal early. You may also have to pay an additional sum of money for the privilege of making a prepayment.

Regardless of the type of mortgage you choose, don't forget to find out if your mortgage offers flexible payment options. It's always great to have the opportunity to pay down your mortgage faster!

understanding mortgages

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