Getting ready to buy a home but confused by the slew of financial terms you’re coming across? You’re not alone. The real estate and mortgage financing industries are full of confusing terminology and it seems like only the professionals fully understand. Three big terms that are bandied about quite a bit when it comes to financing a home purchase are lien, loan and mortgage.
Two of these terms sound a lot alike but actually mean very different things. Let’s break down the meaning and differences between loan and lien.
Loan vs. Lien
A loan is a general term that refers to a financial agreement between two parties in which one lends money to the other with the understanding that the borrower will repay the lender. A loan can be put into writing, a formal contract or it could be an informal verbal agreement (although this is not done in professional institutions).
A formal, legally-binding loan that finances the purchase of a home is usually called a home loan or mortgage. Along with the legal agreement, a loan or mortgage typically includes a fee to the borrower in the form of interest. The lender makes money from charging these interest fees.
As for liens, put simply, a lien is a legal claim on an asset. Since homes are considered assets, and very valuable ones at that, a lien on a home would be any type of legal claim on that property, including a mortgage – i.e. a home loan.
Is a Mortgage a Type of Lien?
Now here is where it gets a little confusing. A lien can be part of the mortgage process when the mortgage (a type of lien) is placed on a home in a secured loan. In the lending process, this legal claim states that the lender has the right to take the property and liquidate it (sell it). They do this to ensure they can recover the funds they lent the borrower, in the event that the borrower fails to repay the loan.
Secured vs Unsecured Loans
It’s also worth noting, as you’re researching the differences between liens and loans, that there are two main types of loans: secured and unsecured.
An unsecured loan is a loan that is not guaranteed by collateral, or an asset. A good example of an unsecured loan is a credit card. When you are approved for a typical credit card, the bank that issued the card charges you a higher interest rate and the “collateral” is your ability to repay the loan. However, credit card companies may be able to place a lien on property if the card holder fails to pay their balance. The same may go for auto loans or federal income taxes, if left unpaid.
With a secured loan, the lender reviews and assesses the borrower’s financial assets (checking and savings accounts, 401k, etc.) or in the case of a mortgage, the lender may assess these along with the borrower’s credit score and will ultimately consider the value of the property as collateral.
For more information, contact a qualified financial advisor or mortgage professional.
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