A prepayment penalty discourages borrowers from paying more or paying off the loan.
What is a guaranteed mortgage?
A guaranteed mortgage is a home loan guaranteed by a third party, often a government agency that will buy the debt from the lender and take responsibility for the loan if the borrower defaults. The value of the home secures the mortgage. If the borrower defaults, the lender can file a claim against the guarantor.
A guaranteed mortgage provides the lender a level of security. Guaranteed loans sometimes are given to risky borrowers who do not qualify for a mortgage but need the financial help. Or, they are given to homebuyers who do not have a large down payment saved and need to borrow up to 100 percent of the home’s value. The guarantee gives the mortgage lender the confidence to grant the loan.
The most common types of guaranteed mortgages are those backed the federal government. The Federal Housing Administration (FHA) and the Department of Veterans Affairs (VA) are guarantors of mortgage loans.
If a borrower defaults on a mortgage guaranteed by the FHA or the VA, the agency steps in to offer the lender financial compensation. This often comes in the form of an insurance-like payment for any funds lost if the home cannot be sold to recoup the investment.
Guaranteed mortgage example
Sam, 24, wants to buy a house but has a sparse credit history. He also has little money saved for a down payment. Sam does not qualify for a regular mortgage loan, but he does qualify for a VA mortgage loan because he served three years in the U.S. Army and was honorably discharged.
The VA loan is a great fit for Sam because it does not require a down payment, there is no mortgage insurance, the credit requirements are flexible and the interest rate is competitive. There is, however, a funding fee because the VA is guaranteeing Sam’s mortgage. The guarantee of the federal government gives the mortgage lender enough security to agree to the loan.
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