What are the different types of loans available to home buyers in 2017, and what are the pros and cons of each? It’s important to know about your loan options before buying, and then consult with your real estate agent about each and meet with a reputable mortgage loan bank or institution if you have more questions.
There are many types of mortgages available to home buyers. Following are a few and a brief explanation of each:
Option 1: Fixed versus Adjustable Rate: As a borrower, one of the first choices is whether you want a fixed rate or an adjustable rate mortgage loan. All loans fit into one of these two categories, or a combination “hybrid” category. Here is the primary difference between the two types.
Fixed-rate mortgage loans have the same interest rate for the entire repayment term. Because of this, the size of your monthly payment will stay the same, month after month, and year after year. It will never change. This is true even for long-term financing options, such as a 30-year fixed-rate loan.
Adjustable-rate mortgage loans (ARMs) have an interest rate that will change or “adjust” from time to time. Typically, the rate on an ARM will change every year after an initial period of remaining fixed. It is therefore referred to as a “hybrid” product. A Hybrid ARM loan is one that starts off with a fixed rate or unchanging interest rate before switching over to an adjustable rate.
Pros and cons: As you might imagine, both of these types of mortgages have certain pros and cons associated with them. An ARM loan has the uncertainty of adjustments later on. The rate and monthly payments can rise over time. The primary benefit of a fixed-rate loan is that the rate and monthly payments never change. But you will pay for that stability through higher interest charges when compared to the initial rate of an ARM.
Option 2: Government-Insured versus Conventional Loans: You will have to choose between a fixed-rate and adjustable-rate type of mortgage. You will also need to decide whether you want to use a government-insured home loan (such as FHA or VA), or a conventional “regular” loan type of loan. A conventional home loan is one that is not insured or guaranteed by the federal government in any way.
VA loans: The Federal Housing Administration mortgage insurance program is managed by the Department of Housing and Urban Development (HUD), which is a department of the federal government. FHA loans are available to all types of borrowers. The government insures the lender against losses that might result from borrower default. This program allows you to make a down payment as low as 3.5 percent of the purchase price. The disadvantage is you’ll have to pay for mortgage insurance, which will increase the size of your monthly payments.
VA loans: The U.S. Department of Veterans Affairs (VA) offers a loan program to all military service members and their families. Similar to the FHA program, these types of mortgages are guaranteed by the federal government, which means the VA will reimburse the lender for any losses that may result from borrower default. The primary advantage of this program is that borrowers can receive 100 percent financing for the purchase of a home, which means no down payment whatsoever.
USDA/RHS loans: The U.S. Department of Agriculture (USDA) offers a loan program for rural borrowers who meet certain income requirements. The program is managed by the Rural Housing Service (RHS), which is part of the USDA. This type of mortgage loan is offered to “rural residents who have a steady, low or modest income, and yet are unable to obtain adequate housing through conventional financing.”
Option 3: Jumbo versus Conforming Loan: The distinction is based on the size of the loan. Depending on the amount you are trying to borrow, you might fall into either the jumbo or conforming category.
A conforming loan is one that meets the underwriting guidelines of Fannie Mae, particular where the size is concerned. Fannie and Freddie are the two government controlled corporations that purchase and sell mortgage-backed securities (MBS). Simply put, they buy loans from the lenders who generate them and then sell them to investors via Wall Street. A conforming loan falls within their maximum size limits, and otherwise “conform” to pre-established criteria.
A jumbo loan, on the other hand, exceeds the conforming loan limits established by Fannie Mae and Freddie Mac. This type of mortgage represents a higher risk for the lender, mainly due to its size. As a result, jumbo borrowers typically must have excellent credit and larger down payments, when compared to conforming loans. Interest rates are generally higher with the jumbo products as well.