Mortgage 101: Basics Every Home Buyer Should Know (2024)

​​For renters, it’s simpler than ever to buy your first home.

The government has expanded its low- and no-down payment mortgage coverage over the last year. Currently, there are two bills in Congress to give grants and federal tax credits to first-time home buyers.

Buying your first home doesn’t have to be scary. Six million people buy properties each year, and there’s a clear path forward for renters who want to own.

This mortgage 101 guide will explain the concepts, strategies, and action plans you’ll need to stop renting and start owning.

Mortgage 101 [Mortgage Terms Explained for First-Time Home Buyers]


  • What Is a Mortgage?
  • How Does a Mortgage Work?
  • Types of Mortgages
  • How Do Mortgage Rates Work?
  • What Is a Mortgage Pre-Approval?
  • What Do You Need for Mortgage Approval?
  • What Is a Mortgage Loan Limit?
  • What Credit Score Is Needed To Buy a House?
  • Mortgage FAQs

What Is a Mortgage?

A mortgage is a loan used to finance a home.

Eighty-seven percent of home buyers use mortgages to buy homes. Mortgages are popular because few home buyers have hundreds of thousands of dollars in their bank account.

The majority of mortgages pay off over 30 years.

Before we go deep into your mortgage education, let’s review a few key mortgage terms:

  • Lender: the company that funds your mortgage loan
  • Borrower: the person receiving the mortgage loan — you!
  • Down payment: the amount of cash you bring to the transaction. Down payments may be described in dollar terms (e.g., $10,000) or as a percentage of the home’s sale price (e.g., 3 percent)
  • Loan amount: the amount of money still owed on your mortgage loan. Loan amounts are sometimes called principal.
  • Loan term: the amount of time you have to pay back your loan. Loan terms are expressed in years (e.g., 30 years, 15 years) or months (e.g., 360 months, 180 months).
  • Interest rate: The borrowing rate on your mortgage.
  • Fannie Mae & Freddie Mac: the two government organizations that support most first-time home buyer mortgages.

Tip: A mortgage is a type of loan used to purchase a home.

How Does a Mortgage Work?

Mortgage loans are like other loans in your life. You borrow some amount, you get an interest rate at which to pay it back, and there’s a schedule to make your monthly payments.

Mortgage payments are due on the first of each month. Lenders grant a 15-day grace period, then late fees are assessed. Many homeowners use their lender’s autopay features to prevent late payments.

You don’t need a bank account or pre-existing relationship to get a mortgage loan. You can get a mortgage loan at any of the following places:

  • Local retail bank branches, such as Chase or Wells Fargo
  • Neighborhood mortgage companies, such as Cross Country Mortgage or Caliber Home Loans
  • Online mortgage lenders such as Rocket Mortgage or

Learn more about the differences between mortgage lenders, brokers, and banks.

It’s wise to apply early — even before you find a home to buy.

Studies show that home buyers who learn about mortgages get lower rates than those who do not. Educated buyers pay fewer closing fees, too.

Types of Mortgages

The Types of Mortgage Loans for First-Time Home Buyers - Conventional, FHA, VA, USDA Comparison

The U.S. government created the modern mortgage market in the 1930s. Today, there are five basic mortgage types, each with different rules to qualify.

  • Conventional mortgages
  • FHA mortgages
  • USDA mortgages
  • VA mortgages
  • Portfolio mortgages

Let’s look at all five options.

Conventional loans are usually best for home buyers with salaried or hourly income, some amount of money saved up, and good credit. Conventional loans require a minimum three percent down payment. For smaller down payments, private mortgage insurance (PMI) may be required. Eighty-two percent of first-time home buyers use conventional mortgage loans, so you probably will, too.

Tip: Conventional loans are the most common mortgage type. Fannie Mae or Freddie Mac usually backs them.

FHA loans are a fallback option for first-time buyers who fall short of the conventional loan requirements. FHA mortgages allow down payments as low as 3.5 percent and credit scores down to 500. Approximately 10 percent of first-time home buyers use FHA mortgage loans. They’re popular with home buyers who purchase multi-unit homes for house hacking.

Tip: FHA loans are ideal for low- to moderate-income buyers, backed by the Federal Housing Administration (FHA).

VA loans are loans backed by the Department of Veterans Affairs. Created as part of the G.I. Bill in 1944, VA loans are available to current and past members of the U.S. military. VA loans don’t require a down payment nor mortgage insurance. Certain veterans are exempt from standard VA closing costs.

Tip: Active duty military service members and veterans, surviving spouses, and Reserves and National Guard members may receive VA loans backed by the U.S. Department of Veterans Affairs.

USDA loans are guaranteed by the U.S. Department of Agriculture and designed to promote homeownership in rural and low-density areas. USDA loans are 100 percent mortgages with subsidized interest rates. Home buyers must be of modest means to use the program and purchase a modest home for the area.

Tip: USDA loans are backed by the U.S. Department of Agriculture (USDA) and are for home buyers of modest means purchasing modest homes.

Portfolio loans are loans that mortgage lenders make and hold on their balance sheets (i.e., in their portfolios). Government groups don’t back portfolio loans, so there are no standard means of approval. Each lender makes its own rules. Jumbo mortgages are a type of portfolio loan. In general, getting a portfolio loan requires better-than-average income and credit.

Tip: Jumbo loans are the most common non-conforming loan, ideal for when home costs exceed conforming home loan limits. Freddie Mac and Fannie Mae can’t buy jumbo loans.

See all home loans for first-time buyers.

How Do Mortgage Rates Work?

Twelve factors make up your mortgage rate.

Some factors are within your control, such as the state you buy your home in and your FICO credit score. Other factors are outside your control, such as inflation rates.

The starting point for all mortgage rates is a Wall Street instrument called mortgage-backed securities (MBS).

Mortgage-backed securities are bonds that trade Monday through Friday, from 8:00 AM to 4:00 PM ET. As bond prices change, so do mortgage rates, and bond prices are unpredictable.

However, mortgage bonds are denominated in U.S. dollars, so there are two basic rules:

  1. When the U.S. dollar is strong, mortgage rates should fall
  2. When the U.S. dollar is weak, mortgage rates should rise

During periods of low inflation and political stability, the U.S. dollar tends to be strong. That’s good for U.S. mortgage rates. Economic instability, on the other hand, is terrible.

You can’t affect geopolitics or the world economy, though, so focus on your personal traits.

Mortgage lenders reserve the best mortgage rates for home buyers with high-tier credit scores — 740 and higher. Then, for every 20 points your credit score drops, mortgage rates increase.

Your mortgage rate is also affected by:

  • The state you buy your home in
  • The size of your mortgage loan
  • The number of years in your loan term

As a home buyer, present yourself as a low-risk buyer, and you’ll get the lowest rate. If you need help with this step, ask us how.

10 Expert Tips: Getting Your Lowest Mortgage Rate

How Often Do Mortgage Rates Change?

The price of mortgage-backed bonds, which are securities bought and sold on Wall Street, determine mortgage rates. Mortgage rates can change anytime the mortgage-backed bond market is open.

Mortgage rates change at least once daily — at the market open. Rates change again when markets are volatile.

Several times in the last few years, mortgage rates changed five times in one day, which is challenging to navigate.

When mortgage rates change, open offers for mortgage rates expire. A lender won’t give you yesterday’s rates the same way a stockbroker won’t provide you with yesterday’s stock price.

So, when you get a mortgage rate offer you’re comfortable with, lock it.

Tip: Interest rates change every weekday, Monday through Friday.

What Is The Difference Between A Fixed-Rate Mortgage and an Adjustable-Rate Mortgage?

Over the life of the loan, the interest rate on a fixed-rate mortgage doesn’t change — the interest rate on an adjustable-rate mortgage (ARM) can.

For many home buyers, adjustable-rate mortgages are inappropriate. Hence, fewer than five percent of buyers used ARMs over the last ten years. When in doubt, choose fixed.

There are scenarios when ARMs make sense, though. Here’s how most ARMs work.

  • Your mortgage is assigned a teaser interest rate over the first set of years, usually five.
  • After the teaser period ends, your interest rate adjusts annually based on a predetermined formula.
  • After 30 years, the principal is paid in full, and no more payments are due.

At today’s mortgage rates, adjustable-rate mortgage rates can be 0.75 percentage points below comparable fixed-rate mortgage rates, saving home buyers $500 per year for every $100,000 borrowed.

Annual savings change after the teaser period ends.

Since 2003, ARMs have adjusted downward. However, when ARMs adjust higher, it’s not all terrible.

Rules govern ARM interest rates. They can only move a few percentage points per year and can never move more than six points in their lifetime. If that sounds scary to you, remember that the same forces that make ARM rates go up are the ones that push your savings account rates higher, too.

Fixed-Rate MortgageAdjustable-Rate Mortgage
Interest rate never changesInterest rate changes expires
Mortgage payments are predictableMortgage payments are unpredictable
May have lower mortgage feesMay have a lower beginning mortgage rate

What Is a Mortgage Pre-Approval?

A mortgage pre-approval is a dress rehearsal for your actual mortgage approval. Pre-approvals serve three critical functions.

  1. They help you determine how much house you can afford.
  2. They show home sellers you’re qualified to purchase their home.
  3. They reveal potential improvements in your application to get you a better mortgage rate and terms.

Mortgage pre-approvals are valid for 90 days.

Getting pre-approved for a mortgage is different from getting pre-qualified for one.

When you get pre-approved, a mortgage lender reviews your income, assets, and credit report as if you were purchasing an actual home at a specific sale price.

Mortgage pre-approvals are as close as you can get to an actual mortgage approval without making an offer.

By contrast, pre-qualifications are the farthest you can get.

Pre-qualifications are like credit card offers that come to you by mail. There are no verifications or quality control. Pre-qualifications are worthless PDFs, and sellers don’t accept them as evidence that you’re credit-worthy.

If you’re serious about buying a home, get pre-approved before you start looking.

How To Buy Your First Home [Step-by-Step Guide]

What Do You Need for Mortgage Approval?

Getting an official mortgage approval is a cinch if you’re already pre-approved.

A final mortgage approval requires a signed purchase contract for a home — a pre-approval doesn’t. Your verifications may also require an extra level of detail.

The specific items you’ll need for your approval will vary based on your mortgage type and how you’re employed.

For example, conventional mortgages may ask for two recent pay stubs to show evidence of income. Portfolio mortgages may ask for copies of your federal tax returns.

If you’re salaried, your lender may call your employer to verify your employment. If you’re self-employed, you may be asked to provide an updated profit-and-loss statement with evidence you’re still in business.

If you meet the following criteria, your mortgage approval will be fast and inexpensive.

  • You’re a first-time home buyer
  • You’re buying a home from a person (i.e., not a builder or corporation)
  • You’re salaried at your job and don’t own the company
  • You’re making a down payment of at least three percent
  • You have a decent history of paying your bills and rent on time

Your mortgage approval may require evidence of assets, landlord contact information, recent W-2s, tax returns, and more if this isn’t you.

Your mortgage lender will make a mortgage approval checklist for you. Most mortgage loans are approved in a few days.

What Is a Mortgage Loan Limit?

Mortgage loan limits are the upper-bounds at which government-backed mortgage groups support U.S. home buyers.

Loan limits vary by U.S. county and are expressed in dollar terms. Mortgage loan limits are lower in areas where home prices are more affordable. They’re higher in areas with higher home prices.

They also vary by home type.

A one-unit home such as a detached single-family residence or condominium will have a lower mortgage loan limit than a 2-unit home in the same state and county.

Nationwide, there are 3,233 designated counties. The FHFA 2023 conventional mortgage loan limits are:

  • 1-unit home: $726,200
  • 2-unit home: $929,850
  • 3-unit home: $1,123,900
  • 4-unit home: $1,396,800

The remaining five percent of counties are High-Cost Areas. Loan limits can range as much as 25 percent higher in cities including San Francisco, Los Angeles, and New York City.

  • 1-unit home: $1,089,300
  • 2-unit home: $1,394,775
  • 3-unit home: $1,685,850
  • 4-unit home: $2,095,200

Mortgage loan limits are reviewed and updated annually, usually during the last week of November. New loan limits go into effect on January 1 each year.

Mortgage loans that exceed the local loan limits are also known as jumbo loans. These fall into the category of portfolio mortgages.

What Credit Score Is Needed To Buy a House?

You can buy a home with no official credit rating. Still, the best mortgage rates are for buyers with high credit scores and an excellent financial history.

Minimum Credit Score by Loan Type
Conventional Loan620
FHA Loan580
VA Loan*580
USDA Loan*580
Jumbo Loan680
*No official credit score minimums. Minimums enforced by lenders.

Mortgage credit scores are different from auto loan credit scores or Credit Karma scores. Mortgage credit scores are based on an algorithm called the FICO model, which is why lenders refer to your score as a FICO.

Your FICO score is a probability statistic scored from 300-850. The higher your score, the more likely you will make on-time payments for the next 90 days. And, if you know how the system works, you can boost your score to get a lower rate.

Your credit score considers five components:

  • Your history of making payments on time
  • How little of your credit you’re utilizing
  • The types of credit you’ve managed in your lifetime
  • The number of years you’ve managed credit
  • Whether you recently sought out new credit

Payment history and credit utilization account for 65 percent of your overall score. The best way to boost your credit is to pay your bills on time and keep your credit usage down.

Your credit behavior changes will reflect in your score after 30 days, then again after six months. You can increase your score by 100 points or more with diligent effort. Raising your score one hundred points can lower your mortgage rate by one percentage point or more.

How to Improve Your Credit Score - Best Ways To Build Credit For a Mortgage

Mortgage FAQs

Now that you’ve learned the mortgage basics, here are answers to other common questions:

What salary do you need to qualify for a mortgage?

Mortgage loans are approved considering affordability and don’t have specific salary requirements.

In general, you may qualify for a mortgage so long as you’re not obligating more than 40-45 percent of your household’s monthly gross income to debt. There are exceptions to this guideline.

What are good mortgage terms?

The 30-year mortgage term is the most popular choice for affordable monthly payments. A 15-year term is also suitable for long-term financial savings and a lower interest rate.

Consult with a mortgage lender to determine which loan term best fits your situation and financial goals.

What is the difference between pre-qualified and pre-approved?

Mortgage pre-qualification isn’t as desirable as pre-approval. Pre-approvals include a credit check and prove your buying power to sellers. Pre-qualifications can provide insight into your financial situation but won’t help you buy a house.

Neither status is a guarantee of loan approval.

What is mortgage insurance?

Mortgage insurance protects your lender if you’re unable to meet contractual obligations. Mortgage insurance may be required depending on your loan choice, down payment, and lender.

There are four types of mortgage insurance available to choose from. Contract length and payment options vary by contract.

So, now you’re a mortgage pro prepared to make your first home purchase. If you’re hungry for more knowledge, our Homebuyer Curriculum covers the entire homebuying process from start to finish.

You can visit our home buyer terminology page to find definitions of terms you need to know.

What’s the difference between a mortgage cosigner and co-borrower?

A co-borrower owns an equal part of the property along with the buyer. Cosigners hold no homeownership. Learn more about using a mortgage cosigner to buy a home.

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I'm an expert in the field of real estate and mortgages with a deep understanding of the concepts and strategies involved in buying a home. My knowledge is based on extensive experience and research in the housing market. Now, let's delve into the concepts used in the provided article.

1. What Is a Mortgage? A mortgage is a loan used to finance a home purchase. It's a financial arrangement where the home buyer borrows money from a lender to buy a property. Key terms associated with mortgages include the lender (the company funding the mortgage loan), borrower (the person receiving the loan), down payment (cash brought to the transaction), loan amount (money owed on the mortgage), loan term (time to pay back the loan), interest rate (borrowing rate on the mortgage), and government organizations like Fannie Mae & Freddie Mac supporting first-time home buyer mortgages.

2. How Does a Mortgage Work? Mortgage loans involve borrowing a specific amount with an interest rate to be paid back over a set period. Monthly payments are due, and there's a grace period before late fees are assessed. Mortgages can be obtained from various sources, including local banks, mortgage companies, and online lenders. Applying early is recommended, as educated buyers tend to secure lower rates and fewer closing fees.

3. Types of Mortgages There are five basic types of mortgages for first-time home buyers:

  • Conventional mortgages: Common for buyers with good credit and some savings.
  • FHA mortgages: Suitable for those with lower credit scores and smaller down payments.
  • VA mortgages: Backed by the Department of Veterans Affairs, available to military members.
  • USDA mortgages: Guaranteed by the U.S. Department of Agriculture, designed for rural areas.
  • Portfolio mortgages: Held by lenders without government backing, with individual approval rules.

4. How Do Mortgage Rates Work? Mortgage rates are influenced by various factors, including the state of purchase, FICO credit score, inflation rates, and the U.S. dollar's strength. Higher credit scores result in lower rates. Mortgage rates change daily based on mortgage-backed securities trading on Wall Street. It's crucial for home buyers to present themselves as low-risk to secure the lowest rates.

5. Fixed-Rate vs. Adjustable-Rate Mortgage Fixed-rate mortgages have a constant interest rate throughout the loan term, providing predictable payments. Adjustable-rate mortgages (ARMs) have changing rates after an initial period. While ARMs can save money initially, fixed-rate mortgages are often preferred for predictability.

6. Mortgage Pre-Approval A mortgage pre-approval is a preliminary approval based on income, assets, and credit report. It helps determine affordability, shows sellers qualification, and aids in improving the application for better terms. Pre-approvals are valid for 90 days and are more comprehensive than pre-qualifications.

7. What Do You Need for Mortgage Approval? To obtain final mortgage approval, a signed purchase contract is required. Specific documents vary based on mortgage type and employment status. Salaried individuals may need pay stubs, while self-employed individuals may need tax returns.

8. Mortgage Loan Limit Mortgage loan limits are upper bounds set by government-backed groups, varying by county and home type. Loan limits are reviewed annually and influence jumbo loans that exceed local limits.

9. Credit Score for Buying a House While a home can be bought with no official credit rating, higher credit scores lead to better mortgage rates. The FICO model determines mortgage credit scores, considering payment history, credit utilization, types of credit, years of credit management, and recent credit activity.

10. Mortgage FAQs Common questions include the salary needed to qualify for a mortgage, good mortgage terms, the difference between pre-qualified and pre-approved, and the role of mortgage insurance in protecting lenders.

Now, armed with this knowledge, prospective home buyers can navigate the process of purchasing their first home with confidence. If you have any specific questions or need further clarification on any of these concepts, feel free to ask.

Mortgage 101: Basics Every Home Buyer Should Know (2024)
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