Introduction to Mortgage Loans

What's a mortgage loan?

If you borrow $1.50 from your co-worker to buy cheese puffs from the vending machine, you've taken out a loan. Your co-worker has little recourse if you don't pay her back; but it's only $1.50 so the world won't end. But what if you need $50 for some gourmet groceries? Your co-worker might be reluctant to oblige. To make the deal more user friendly, you agree to give her your hand-signed, Randy Johnson baseball to hold as collateral. In this situation, you've taken out something similar to a mortgage loan. The co-worker's loan is secured by that baseball; a mortgage loan is secured by real estate.

When you accept a mortgage loan, you're making two promises:

1. You'll pay back the loan in accordance with the stated terms.
2. If you don't pay back the loan as agreed, you'll allow the lender to take ownership of your property. Just as your co-worker will eventually sell that Randy Johnson ball to get her $50 back, your lender will sell the property to pay off your debt.

Buying versus renting

Two primary advantages are gained from purchasing your own home with a mortgage loan: tax deductions and asset ownership.

Taxes. Mortgage interest is tax deductible. Particularly in the early years of a mortgage loan, this deduction may significantly reduce your tax liability. This savings might enable you to spend more on a mortgage payment than you could afford for a rent payment, since you'd be getting something back in return. Always consult with your tax advisor to understand the benefits for your individual situation.

Asset ownership. Real estate tends to increase in value over time. If you pay $200,000 for a home tomorrow and that home is worth $250,000 in four years, you've made $50,000. Even if the home doesn't increase in value, you at least own something that can be sold-which isn't the case if you're renting.

You've just completed your first date with your mortgage education. Consider yourself introduced to the basics of the mortgage loan. Now it's time to move into the "getting to know you" phase.