The world of mortgage loans can, at first glance, seem difficult. With terms like ‘fixed-rate,’ ‘adjustable rate,’ ‘conventional,’ among others, you may feel like you’re navigating a labyrinth rather than embarking on the exciting journey of home ownership. But, armed with valuable information, you can confidently thread the path and understand the details that matter. Here is our comprehensive guide to understanding the various types of mortgage loans.
Fixed-Rate Mortgage Loans
These types of loans are simple, straightforward, and commonly preferred. A fixed-rate mortgage means that the rate of interest remains stable throughout the life of the loan. Whether you take it for 15, 20, or 30 years, the interest rate initially agreed on will not change.
The advantages of this type of mortgage are predictability and stability. No matter the economic landscape, your payments remain the same. It allows you to budget effectively without worrying about fluctuations in interest rates. However, you pay for this predictability as fixed-rate mortgages often carry higher interest rates than adjustable-rate mortgages.
Adjustable-Rate Mortgage Loans (ARMs)
Unlike fixed-rate loans, ARMs have interest rates that can change over time. They usually offer a fixed rate for an initial five, seven, or ten years, after which the rate is adjusted based on a financial index. With ARMs, you enjoy lower initial interest rates, but you’re also taking the risk of potential increases in the future.
ARMs can be great if you intend to sell your home before the rate adjusts. You should, however, be prepared for potential interest hikes, which could raise your monthly payments. Also, always understand the frequency of adjustment and the rate caps, which restrict how much your interest rate can change.
Conventional Mortgage Loans
Conventional mortgages are home loans not backed by the government. They are often further divided into “conforming” and “non-conforming” loans. Conforming loans meet the funding criteria of Freddie Mac and Fannie Mae, including size and credit score. Non-conforming loans don’t meet these standards.
They require buyers to have a high credit score, and they often require a down payment of 5% to 20%. However, borrowers also have to pay for private mortgage insurance if their down payment is less than 20% of the home’s purchase price.
The Federal Housing Administration backs FHA loans. These loans are popular, especially among first-time buyers, because they allow down payments of 3.5% for credit scores of 580+. However, borrowers get saddled with mandatory mortgage insurance for the entire loan’s life, which can really add up for long-haul borrowers.
The US Department of Veterans Affairs backs VA loans. These home loans are offered to qualified veterans, service members, and their spouses. The great thing about VA loans are the competitive interest rates and no requirement of a down payment or private mortgage insurance.
These are loans facilitated by the US Department of Agriculture for rural and suburban homebuyers. USDA loans offer 100% financing, which means no down payment is required. They also provide low-interest rates and low mortgage insurance fees. However, they come with income restrictions and aren’t available to metropolitan or large suburban buyers.
Knowing the various types of mortgage loans, their pros, and cons, can help you make an informed decision that is aligned with your financial capabilities and goals. Be sure to shop around, ask for clarity from your lenders, and explore every nitty-gritty detail before deciding. Remember, the home-buying journey may be daunting, but with insight and understanding, it becomes a worthwhile adventure.