A mortgage loan is a loan where real estate is used as collateral. In many parts of the world, including North America and Europe, a home mortgage loan is a very common method of financing the purchase of a home.
The two main types of mortgage loans are fixed rate mortgage (FRM) loans and adjustable rate mortgage (ARM) loans. With the FRM loan, the interest rate is fixed for the duration of the loan, e.g. 35 years. With an ARM loan, the interest rate is adjustable. Few ARM loans have an interest rate that is adjusted on a daily basis, since that would be impractical. Instead, the interest rate is fixed for a specified time, e.g. 12 months, and then renegotiated. There are also ARM loans where the interest rate will vary from month to month.
Be critical when comparing different mortgage loan offers. Mortgage loans tend to be big and long-term, so even a small change in interest rate or a monthly fee can turn into huge sums over time. The mortgage loan suggested to you by the person wanting you to sign-up for a mortgage loan isn’t necessarily your best choice. Prior to the U.S. subprime crisis of the late 2000s, a lot of mortgage brokers would encourage borrowers to opt for mortgage loans that required very little documentation – even if the client was both willing and able to provide documentation of income, employment, tax returns, and so on. A so called no-doc or low-doc mortgage loan had a higher interest rate, which translated into a bigger commission for the broker. Also, by steering their clients towards no-doc and low-doc mortgage loans, brokers and lenders didn’t have to spend time and effort checking out and verifying documentation.
Non-recourse mortgage loan
When a borrower defaults on a mortgage loan, the lender have the right to sell the real estate used as security for the loan, and use the money from this sale to compensate for the borrower’s failure to pay back the loan.
So, what happens if the sale of the real estate doesn’t bring in enough money to pay back the loan in full? Let’s say the borrower owes $850,000 on his mortgage loan but the sale only brings in $700,000.
- If it is a non-recourse mortgage loan, the lender has no legal right to go after the borrower to get the missing $150,000. With a non-recourse mortgage loan, the risk of the market value of the collateral falling below the size of the mortgage loan is carried by the lender.
- If the mortgage loan isn’t non-recourse, the lender can go after the borrower to get the $150,000 back. The borrower will owe the lender $150,000 in unsecured debt. The lender will not have priority over other creditors.