What Is a Mortgage? A Guide to Home Loans for Beginners

For the vast majority of people, a mortgage is the only way to achieve that nearly universal dream: owning a house. So, almost everyone can benefit from knowing the basics about mortgages, especially those looking to buy a home in the near future.

In this guide, we’ll walk you through everything you need to know about mortgages, from what they are and the common types to the standard process and frequently asked questions.

Mortgage basics

What is a mortgage?

A mortgage is a secured loan people take out to purchase (or refinance) a home or other real estate property. A borrower is required to pay the entire amount of the loan plus interest accrued across monthly payments before the mortgage is considered to be satisfied — usually anywhere from 10 to 30 years. 

Why do people need mortgages?

For most people, their home is the most expensive purchase they will make in their lifetime. One of the primary ways to make homeownership more attainable for the average individual or family is to offer them a long-term loan, allowing them to spread out the cost over time. The long repayment period of a loan lets prospective homeowners afford the monthly payments needed to pay off the mortgage. 

Housing prices in the United States have never been higher, either. Just 40 years ago (1985), the median sales price of a home was under $80,000, while the median household income was $22,400.[1] That worked out to a price-to-income ratio of 3.5. 

In 2022, the price-to-income ratio was 5.8, almost double a home’s purchase price compared to household income. Mortgages serve as a democratizing force, giving most people the chance at property ownership.

How do mortgages work?

A mortgage lender, typically a bank, provides the funds for the loan. A borrower (or mortgagor) takes out the loan, promising to repay it in full over time. The property itself serves as collateral. 

Until the mortgage loan is fully repaid, the lender has a legal claim on the property, known as a lien. The lien grants the lender the right to take possession of the property (foreclosure) if a borrower defaults on their mortgage. Upon final payment of the mortgage and any interest accrued, the lender will release the lien, at which point the borrower receives free and clear ownership of the property.

Common types of mortgages, explained

Like the homes they finance, mortgages come in many shapes and sizes, with varying interest rates and terms. Here are some of the most popular loans to consider:

Conventional loan

A conventional loan is a type of mortgage offered by private lenders without a guarantee from or insurance by a governmental agency. Without the government agency backing, conventional loans typically require a good to excellent credit rating. 

Most conventional loan programs require at least 5% down. For almost any down payment under 20%, you’ll also need to pay private mortgage insurance (PMI) to protect the lender. 

FHA loan

An FHA loan is a mortgage backed by the Federal Housing Administration (FHA), designed to help those who are further from the dream of homeownership achieve their goals. First-time homebuyers and those with low down payments or credit scores can often find a plan even if they might not qualify for a conventional loan. Credit scores can be as low as 500, although down payment requirements may vary based on that score.

VA loan

A VA loan is a mortgage backed by the Department of Veterans Affairs (VA), with eligibility granted to members of the military, veterans, and their spouses. For those who meet its requirements, a VA loan may be one of the best options around. Eligible applicants can usually have a lower credit score than conventional loans require and avoid a down payment or PMI. 

Fixed-rate vs. adjustable-rate 

Fixed-rate and adjustable-rate mortgages categorize loans based on their interest rate types. A fixed-rate mortgage is a type of mortgage in which the interest rate remains the same over the course of the loan. A fixed-rate loan tends to be the more popular option, especially for those who want certainty and predictability. It’s often recommended to homeowners who plan to stay in their home for most or all of the mortgage life.

An adjustable-rate mortgage (ARM), on the other hand, has interest rates that fluctuate throughout the loan period. It’s common for ARMs to have a lower fixed interest rate for a set introductory period. Once that period expires, the interest rate will go up or down based on a particular index (dependent on current market and economic conditions). Adjustable-rate mortgages are more popular among borrowers who are likely to sell after a few years (before the introductory period expires).

Other types of mortgages

While those are the most common loans, a variety of others exist. For instance, USDA loans help those with lower incomes afford homes in certain rural areas. Jumbo loans are ideal when the financed amount exceeds conforming loan limits. 

From balloon mortgages and construction loans to piggyback mortgages and construction-to-permanent loans, check out our mortgage guides to understand the best option for your particular situation.

The typical mortgage process 

Here’s what a standard mortgage process might look like:

1. Get a preapproval.

Don’t wait until you’re ready to make an offer on a home to start looking at mortgages. A preapproval letter from a lender means they’ve done a preliminary assessment of your finances and credit history and are willing to loan you a particular amount at a particular rate. Having a preapproval letter in hand shows the seller you that mean business.

2. Make an offer.

Once you’ve found a property that catches your eye, it’s time to make an offer. An earnest money deposit may be required to demonstrate to the seller that you’re serious.

3. Apply for a mortgage.

If the seller accepts your offer, it’s time to turn that preapproval into a mortgage application . You don’t necessarily have to use the lender that gave you the preapproval, but it’ll be a lot faster and more likely to result in a “yes” if you do.

4. The lender conducts due diligence.

The lender will process and verify all your documents and conduct additional checks, including employment verification and a home inspection and appraisal. Next, an underwriter will analyze the information they’ve collected and determine accuracy, risk, and other aspects.

5. Review the final terms and closing disclosure.

If you satisfy the underwriter’s requirements, you’ll receive a closing disclosure that gives you the finalized details of your mortgage. Review this document carefully to ensure that everything is accurate, including the loan length, interest rate, monthly payments, and closing costs. 

6. Prep for closing. 

The exact closing process can vary, but you’ll likely meet with the seller, your respective agents, a real estate attorney, and title agents. If there are any costs you’ve yet to settle (e.g., closing fees, down payment), you typically pay them at this time. After a few signatures, you’ll get the keys to the property and a handshake. Congratulations on your new home!

Frequently asked questions about mortgages