What Is a Home Loan and How Do They Work?

Mar 16, 2022

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min read

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any people dream of having their own home. However, purchasing or constructing a home is an expensive endeavor.

For this reason, home loans are so popular; they give you a lump sum payment to purchase a property in exchange for a commitment to repay the debt later.

As tempting as it sounds, there are many things to consider before taking out a home loan. The key consideration with a home loan is that you do not need money to purchase the home, but the lender will take possession of the property if you do not repay the loan.

As a result, it's critical to understand house loans before applying for one thoroughly. This article covers everything you need to know about a home loan.

What Is A Home Loan?

A home loan is a secured loan borrowed to purchase or construct a home. In a home loan, the collateral for the loan is the home itself. If the loan cannot be paid, the lender will hold the property's title.

Home loans are long-term loans with a payback period of 15 to 30 years. The interest and principles should be paid as the monthly payments till the loan is finally paid off.

How Does A Home Loan Work?

The borrower applies for the home loan to purchase or construct the home. The borrower has to submit several documents, such as a sales contract or building contract to the lender.

After the loan is approved, the lenders provide a lump sum to the borrower to purchase or build the house. The property bought or made will be under the mortgage loan. This means that the borrower can fully claim the property as his own after the loan is finally paid off.

The terms of a home loan are generally 15 - 30 years, and the borrower needs to pay monthly payments that consist of principal and interest. In addition to the principal and interest, other costs add to the monthly payment, such as mortgage insurance, home insurance, and property taxes.

If the borrower cannot pay off the monthly repayments on time, the lender claims the property.

Types of Home Loan

Lenders provide home loans for various reasons, including purchasing a home. The following are some of the most common house loans available.

Loans for Land Purchase

The borrowers can borrow the loan to purchase vacant land. Even if they don't intend to construct the home soon, they can borrow loans to buy the land. This strategy is best if the land prices are soaring. After saving up some money, the borrower can later build the house on the land.

Loans for purchase of a home

Home loans for purchasing a home are the most common way to borrow home loans. The borrower borrows a lump sum to buy the home or apartments.

To apply for this loan, the borrower needs to submit the contract of sales stating the price of the house that is to be bought. The loan is provided based on that home's value.

Sometimes, the borrower may not have found the property; in such a case, the lender gives time to find the property within the loan range.

Loans for the Building of a House

This home loan is designed specifically for persons who would instead build their own home than buy one that has already been built. This form of loan has a separate approval process because it also considers the land cost.

When applying for a house building loan, the most crucial requirement is that the land must have been purchased for the land cost to be included in the loan amount.

A preliminary estimate of the building cost is used to determine the loan amount. The funds may be entirely disbursed at once or in installments.

Loans for home expansion or extension

Renovators can also borrow home loans for home renovation or expansions. Several lenders provide renovation loans based on the home's value after the renovation.

Some banks also provide loans for home expansion, which may include alterations to the existing structure and the addition of new rooms.

Loans for home conversion

Home conversion loans are available to people who have already taken out a home loan and purchased a property but want to move to a different home.

Borrowers can fund the purchase of a new property while avoiding repayment of the prior home loan by transferring the present debt to the new home.

Home Loans with refinancing

Home loan refinancing is when a person wants to transfer their house loan from one bank to another for lower interest rates or better services provided by the other bank. This is done to repay the remaining loan at the different lender's lower interest rates.

Bridge Home Loans

Bridged Loans are short-term loans for existing homeowners who want to buy a new house. It assists borrowers in financing a new home while the existing property is sold.