Understanding Mortgage Notes

Mortgage notes play key roles in purchasing and financing properties. Whether it’s buying a home or commercial property notes are required to define the financing terms. When accompanied by a deed, the two documents define the terms of the purchase and financing. Together, they define the terms of ownership and debt on a property.  Deeds are recorded with the county as evidence of ownership so taxes and other assessments can be properly levied. Mortgage notes are held by the lender and borrower and define the terms of a loan.

 What is a Mortgage Note?

 Mortgage notes are also called “promissory notes” or simply “notes”. In simple terms they are contracts or written agreements that codify the borrower’s promise to repay a loan to a lender. They detail the terms and conditions under which the payments will be made, include the amount borrowed, the interest rate and repayment period, and other factors pertinent to the transaction.

 What are the Components of a Mortgage Note?

 Here are the basic terms contained in a note listed in the order that they are usually presented.

1)    Collateral Description: When a loan is made the land, home, or commercial building is taken as security for its repayment. A lien is placed on the property, and it’s released after the debt is retired. To ensure that the lien is placed on the correct property it is defined by its address, parcel number and other factors.

2)    Loan Amount: The loan amount is usually a percentage of the property’s purchase price or value. For instance, a home that was purchased for $100,000 where the buyer made a $20,000 down payment could have an $80,000 loan plus or minus closing and other credits or costs.

3)    Interest Rate:  Most often lenders charge interest for their willingness to provide financing. The rate may be fixed, or float based on an index. Sometimes the rates are adjusted after several years to reflect the current cost of borrowing.  However, most home loans in the US have fixed rates for the loan’s entire term.

4)    Loan Term and Repayment Schedule:  The term is the period over which the loan and interest must be repaid. A note indicates the date the first payment is due and when it matures. Most home loans in the US have 20-to-30-year terms and fixed monthly payments. However, some are repaid quarterly, semiannually, or annually. Occasionally, a loan will mature before the end of the repayment schedule.  When this happens, the borrower must repay the remaining balance in one lump sum. An example of this is a loan that amortizes over a 30-year period but matures in 10 years. At the end of 10th year the borrower must pay the balance to the lender.

5)    Late Payment Penalties:  If a lender is a bank the money they lend comes from depositors or other commercial lenders. If borrowers’ payments aren’t made as agreed the lender may have to advance funds to cover their costs. Thus, they assess late payment penalties from their borrowers to cover those potential additional expenses.

6)    Prepayment Terms: Many lenders want to ensure that a loan will be outstanding for a minimum period so they can manage their own finances. This can be accomplished by  prohibiting or restricting the loans prepayment. If a loan’s prepayment is prohibited its usually for a period shorter than the term. An example is that a 20-year loan may not be prepayable for the first five years. Prepayments penalties (restrictions) are often graduated and are higher in the first years and decrease during the term. An example is that a 20-year loan might be prepayable in the first 2 years for a 3 percent fee, and a one percent fee thereafter.

 In summary, mortgage notes define the terms under which loans are made. They are the borrower’s promise to satisfy the debt and evidence the lenders right to collect payments and, if necessary, foreclose on the property. Most lenders use standardized forms for these transactions that are acceptable by many companies. However, borrowers are always advised to “read the fine print” and know the terms they are accepting.

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