The Ultimate Guide to Mortgage Basics
Understand how mortgages work, what they cost, how lenders qualify borrowers, and what to expect from pre-approval through closing, explained in plain English.
Mortgages come with unfamiliar terms (rate vs APR, escrow, PMI, amortization) that can make the process feel more confusing than it needs to be. This guide walks you through the fundamentals so you can compare options confidently and avoid surprises.
What Is a Mortgage?
A mortgage is a loan used to purchase or refinance real estate. Instead of paying the full price of a home upfront, you borrow money from a lender and repay it over time, often 15 to 30 years, with interest.
The home serves as collateral for the loan. If payments aren’t made, the lender can take ownership of the property through foreclosure. This is why lenders care about your income, credit, and savings: they want to know the loan is affordable for you and that the risk of missed payments is low.
The key parts of a mortgage
- Loan amount: the money borrowed after your down payment is applied.
- Interest rate: the cost of borrowing, expressed as a percentage.
- Term: how long you have to repay (often 15 or 30 years).
- Monthly payment: the amount due each month, which may include more than just the loan.
What is a Mortgage? (The Basics) dives deeper into definitions, terminology, and how the loan stays secured by the property.
How Mortgages Work (Step by Step)
Most mortgages follow the same rhythm: you borrow money to buy a home, you make monthly payments, and the balance gradually declines until it reaches zero.
- You borrow to purchase a property. The lender pays the seller, and you agree to repayment terms.
- Your monthly payment begins. Payments are due monthly and are usually the same day each month.
- Interest is calculated on the remaining balance. Early payments are mostly interest.
- Principal reduction accelerates over time. As the balance declines, less interest accrues.
- The loan is paid off. When the balance hits zero, you’ve completed repayment.
When you compare lenders, keep inputs consistent (price, down payment, term, taxes/insurance). Then change only the interest rate to see the true impact on your monthly payment and total interest.
Mortgage Types Explained
Mortgage programs differ in how the rate behaves, how much you need upfront, and how strict the qualification rules are. Choosing the right type often depends on your timeline, savings, and credit profile.
Your interest rate stays the same for the full term. Your principal-and-interest payment stays consistent, which makes budgeting easier.
Start with a fixed period, then the rate can adjust. Often lower at the start, but future payments may rise if rates rise.
FHA can be more accessible for some buyers, while conventional often rewards stronger credit and may offer more flexibility for removing mortgage insurance later.
VA and USDA may help eligible buyers with favorable terms. Jumbo loans cover higher balances and often require stronger qualification.
Deep dives
Financial Readiness: What Lenders Look At
Lenders focus on risk and affordability. The goal is to confirm you can comfortably make the monthly payment and handle surprises like repairs or income fluctuations.
The “big three” factors
- Credit score: influences the rate and loan pricing.
- Down payment: affects loan size, monthly payment, and whether PMI applies.
- DTI ratio: shows how much of your income is already committed to other debt.
A stronger credit profile usually means a better rate. Over a long term, even small rate differences can add up to meaningful savings.
A larger down payment can reduce the loan amount and may eliminate PMI. A smaller down payment can preserve cash but can increase monthly cost.
DTI helps lenders gauge monthly affordability. If your DTI is already high, the rate you qualify for, or the loan amount you can comfortably carry, may be more limited.
Costs and Fees You Should Plan For
Mortgage costs come in two buckets: upfront costs (cash-to-close) and ongoing costs (monthly payment). Comparing lenders gets easier when you separate those two.
Paying points can lower the interest rate, but increases upfront costs. Whether it’s worth it depends on how long you keep the loan.
Includes lender fees, appraisal, title services, and prepaid items. Reviewing a Loan Estimate line-by-line helps you spot differences between offers.
The Mortgage Process (From “Thinking” to “Closing”)
The process is easier when you know what’s coming. A typical timeline includes (1) getting pre-approved, (2) submitting a full application, (3) underwriting and appraisal, and (4) closing.
- Pre-approval: a lender reviews your finances to estimate how much you can borrow.
- Application: you submit documents and lock in core loan details.
- Underwriting: the lender verifies details and assesses risk.
- Appraisal: confirms the home’s value for lending purposes.
- Closing: you sign final paperwork and the loan is funded.
Mortgage Interest Rates: Why They Matter
Mortgage rates affect your payment in two ways: they change how much interest you pay each month, and they change how much interest you pay over the life of the loan. The impact is usually larger on bigger loan amounts and longer terms.
In our mortgage rate calculator, set a home price and down payment, then test two rates (like 6.25% and 6.75%). Compare the Estimated Monthly Payment (all-in) and the Total Interest (life) to see the difference.
PMI and Escrow: Two Common Payment Surprises
Many borrowers focus on principal and interest, then get surprised when the “all-in” payment is higher. Two common reasons: mortgage insurance (PMI) and escrow (taxes and insurance).
Often required when the down payment is under 20% on a conventional loan. It can add a monthly cost until you reach enough equity.
Many lenders collect taxes and insurance monthly and pay those bills when they come due. Escrow can change when taxes or insurance premiums change.
Amortization, Points, and APR
Beyond the rate, it helps to understand how the loan balance changes over time (amortization) and how fees influence your true loan cost (points and APR).
Amortization schedule
An amortization schedule shows how each payment is split between interest and principal. Early payments are mostly interest because the balance is highest at the beginning.
Mortgage points & APR
Points can lower your rate but increase upfront costs. APR can include certain fees, so it’s often higher than the interest rate. When comparing offers, it helps to look at interest rate, APR, monthly payment, and cash-to-close together.
Explore All Mortgage Fundamentals Articles
If you want to go deeper on a specific topic, start with the article that matches your next decision, loan type, readiness, costs, or the application steps.
Head back to our calculator for mortgage rates and test a couple of rates to see how the Estimated Monthly Payment (all-in), Principal & Interest (P&I), and Total Interest (life) shift.