Prior to hunting for a home, you'll need to secure the lending that you will use to purchase the property. With so many different options available, it may seem confusing deciding on which loan is right for you. In this article, we'll cover five different loan options to help you determine which lending is most suitable for you.
THE 5 TYPES OF MORTGAGE LOANS
Adjustable-Rate Mortgage (ARM) - These loans are most suitable for buyers who aren't necessarily looking to be married to their home. This loan runs the risk of having fluctuating payments.
Fixed-Rate Mortgage - A fixed-rate mortgage offers predictability and consistency. The buyer will not have to worry about changes in their monthly payment over the life of the loan.
Conventional Loan - These loans are the best option for buyers with exceptional credit scores.
Jumbo Loan - Jumbo loans are most advantageous for buyers with excellent credit who are making an expensive purchase.
Government-Insured Loan - Veterans, buyers who have a lower credit score, and buyers with less available cash down typically benefit the most from these types of loans.
ADJUSTABLE-RATE MORTGAGE (ARM)
Adjustable-rate mortgages do exactly what the name states. The rate of the loan fluctuates over the period of the loan. With these loans, the interest rate adjusts by increasing and decreasing depending upon the market's current interest rate. Buyers with this type of loan may benefit from having a decrease in payment, but they may also have to swallow a higher payment in the event the interest rate increases. A lot of adjustable-rate mortgages begin with a rate which remains fixed for a designated amount of time before transitioning to a variable interest rate for the remainder of the term. Adjustable-rate mortgages are displayed as such: 5-year/6-month ARM. This simply means that the loan has a fixed interest rate for the initial five years, and will have a rate which adjusts every 6 months for the remaining duration of the loan. *ALWAYS, ALWAYS, ALWAYS READ THE FINE PRINT REGARDING INCREASE CAPS ON YOUR LOAN. IT IS IMPORTANT TO BE FULLY AWARE OF HOW MUCH YOUR PAYMENT CAN INCREASE.*
FIXED-RATE MORTGAGE
Fixed-rate mortgages are typically preferred because they offer the buyer a consistent interest rate and payment over the entire duration of the loan. The most common length of fixed-rate mortgages are either 15 years or 30 years, although some lenders allow alternate terms which falls within this range. The largest benefit of a fixed-rate mortgage is the predictability of payments which enable the buyer to more accurately budget their expenses. People who desire stability tend to favor fixed-rate mortgages to avoid the risk of an increase in monthly payments. With the recent all time low interest rates, many buyers have been eager to solidify a low fixed-rate mortgage.
CONVENTIONAL LOAN
There are two variations of conventional loans, conforming conventional and non-conforming conventional. Conforming conventional loans abide by the FHFA (Federal Housing Finance Agency) which require the buyer to meet certain criteria based upon credit and income. Conforming conventional loans also have loan limits which the loan amount cannot exceed. Non-conforming loans on the other hand do not have to conform to the guidelines set by the FHFA. Non-conforming conventional loans may appeal to both buyers with great credit, and buyers with subpar credit as well. These style loans are structured for individuals purchasing large, more expensive homes, and also for those whom may be dealing with immense credit problems such as bankruptcy. Whether opting for a conforming or non-conforming, both types of conventional loans offer some good benefits which make the conventional loan route pretty appealing.
Pros:
Conventional loans can be used for not only a primary residence purchase, but for the purchase of a secondary home or investment property.
The borrowing costs associated with conventional loans are typically much lower as well, even in the event that the interest rate is higher.
One of the biggest advantages of conventional loans is that the borrower is able to cancel PMI (Private Mortgage Insurance) once they establish a certain amount of equity in the property.
Sellers are allowed to contribute to closing costs.
In some instances, buyers can put as little as 3% down on a purchase.
Conventional loans are excellent for purchasing property but the downside is that the qualifying criteria is in most cases much more strict. Therefore, we have included what some people may consider to be the cons of conventional loans.
Cons:
Conventional loans typically require a minimum FICO score of at least 620.
The down payment associated with conventional loans tends to be higher in comparison to its counterparts.
Conventional loans require borrowers to have a maximum DTI (Debt to Income Ratio) of 43%. Some lenders may allow for no more than 50%.
The required documentation is more demanding in terms of producing income verification, employment, assets, etc.
Overall, conventional loans, more specifically, 30 year conventional loans are the most popular style mortgage among homebuyers. If you have established a strong credit score, and also have a substantial down payment set aside for your purchase, a conventional loan is a great option for you.
JUMBO LOAN
Are you looking to purchase a million or multimillion dollar home? Well, a jumbo loan is probably right for you. Jumbo loans appeal to buyers purchasing more expensive properties which exceed the loan limits set by the FHFA (Federal Housing Finance Agency). The criteria to qualify is much more strict than any other available loan so not everyone will be eligible. The advantages of jumbo loans are that it enables buyers to purchase much more expensive properties, and it also provides buyers with competitive interest rates for their purchases. A down payment of usually 10%-20% is required along with at least a FICO score of 700 although these restraints aren't typically an issue for the individuals leveraging this style of funding. Most lenders will also require that their borrowers provide not only proof of funds, but proof of assets as well.
GOVERNMENT-INSURED LOAN
Although the government isn't directly appropriating funds to homeowners, certain government agencies do back mortgages. With this type of assurance, Americans all across the country are able to step into the realm of homeownership. There are three government agencies which insure mortgages. These include the U.S. Department of Veterans Affairs (VA Loans), the Federal Housing Administration (FHA Loans), and the U.S. Department of Agriculture (USDA Loans). Provided below is a more in depth description of the following.
VA Loan - Both active duty and military veterans are eligible for a VA loan. This style loan comes with a low interest rate and does not require a down payment or mortgage insurance. These loans also allow the seller to contribute to and or pay all closing costs which are typically capped at a certain dollar amount. The one fee which does accompany this particular home loan is what is identified as a funding fee. This expense is a percentage of the total loan amount and it can be incorporated into the mortgage itself to prevent the borrower from paying the cost upfront. As a VA loan recipient, lenders will usually offer the lowest possible interest rates and even be more flexible in regard to credit requirements.
FHA Loan - As stated above, FHA Loans are backed by the Federal Housing Administration. This style loan allows millions of Americans to gain homeownership. The great thing about FHA Loans is that borrowers don't need a large down payment or perfect credit. FHA Loans allow borrowers to purchase a home with a minimum FICO score of 580 to achieve a maximum financing of 96.5%. This allows homebuyers to put down only 3.5% to purchase a home. FHA also allows individuals with a FICO score of less than 580 but greater than or equal to 500 buy a home as well. The required down payment for these borrowers is only 10%. These style loans are essential for Americans who are working on improving their financial health, and also for those seeking homeownership with a lower down payment. FHA loans are extremely valuable but they do come with a cost. Borrowers are required to pay two mortgage insurance premiums, one upfront, and one annually. Nonetheless, these loans are perfect for a large majority of homebuyers.
USDA Loan - USDA loans as mentioned previously are backed by the U.S. Department of Agriculture. These loans enable middle to low income buyers to purchase properties in rural areas. The location of the subject property is required to be within a designated area which is considered USDA eligible. Borrowers must meet specific income requirements and similar to VA loans, they are not required to contribute a down payment. Also, similar to the VA loan's funding fee, USDA loans come packaged with a 1% fee which can either be paid upfront, or rolled into the life of the loan.
SELECTING THE LOAN THAT'S RIGHT FOR YOU
Now that you've had the opportunity to learn more about the various loan options, it's time to take the next step in the home buying process. When it comes to lending, just remember you have options. Take your time researching lenders in your area. Read reviews and make sure that you compare multiple options to best determine which lender is right for you. You will definitely want a lender that is easy to work with, and that strives to get you the best terms for your mortgage. If you need any assistance finding a lender, please don't hesitate to reach out. We would love to send you some recommendations and get you pointed in the right direction!
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