6 Words You Won’t Know Until You Buy a House—and What They Mean

published Dec 11, 2020
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Buying my first house was a confusing process. Not only did I have to deal with enough numbers to make my head spin—and I’m horrifically bad at math—and sign paper after paper, I also had to learn a whole new language specifically related to buying a new home. I spent a lot of time running Google searches for phrases like “escrow in simple terms” and “equity described to a fourth-grader.”

Lucky for you first-time home buyers, I’m now able to explain these words to you—with some help from a real estate professional. Agent Allison Chiaramonte from New York’s Warburg Realty shared with me some of the most common financial terms you probably wouldn’t have known until you bought a house, and what they mean.

Equity: Equity is how much your house is worth minus debts against it, like a mortgage. To build equity (another homeownership buzzword), you pay down your mortgage. “If you buy your home with all cash, the home value is 100 percent equity,” Chiaramonte says.

Escrow: Consider this a third-party savings account, or a place that keeps your money safe at different parts of the homebuying life cycle. Your agent will usually put your down payment in escrow, where it will stay until the purchase is complete, and often you’ll have an escrow account to hold tax and insurance money throughout the life of your mortgage. Say your property taxes are rolled into your monthly mortgage payment. That money is likely going to an escrow account with your lender, who will then make the annual property tax payment out of that account.

Fixed-Rate Mortgage: This is a primary mortgage type. It means your interest rate on your mortgage will not change throughout repayment. “This makes budgeting easy for homeowners and the borrower is protected from sudden increases in monthly mortgage payments if interest rates rise,” Chiaramonte says.

Adjustable-Rate Mortgage (ARM): This is another primary mortgage type. It means the interest rate on your mortgage can change over time. At first, the interest rate will be fixed for a period of time determined by your lender, but after that it can change monthly or yearly. “Generally, ARMs start with lower monthly payments and often come with rate caps that limit how high the rate can be or how drastically the payments can change,” Chiaramonte says. “ARMs can be a smart choice for buyers [who are] planning to pay off a loan quickly or are not worried about rate adjustments.”

Debt-to-Income Ratio: This is all your monthly debt divided by your gross monthly income. “This number is one way lenders measure your ability to manage monthly [mortgage] payments,” Chiaramonte says. It’s expressed as a percentage—and lenders are usually looking for about 35 percent or less.

Short Sale: You’ve probably heard of foreclosure sales, or when a mortgage lender repossesses someone’s house and sells it. But short sales are something that can happen before or instead of a foreclosure. With a short sale, the homeowner still owns their house, but they are selling it for less than what they owe on the mortgage. Don’t let the name fool you—short sales are often anything but, with negotiations stretching out sometimes for months.