Type of mortgage loans and programs
Choosing the right type of mortgage loans for your home is a big decision. Not only must you decide how much to borrow, but also the type of mortgage and program. Careful planning is required as type of mortgage loans, programs, and terms affects how long you’ll pay the loan, how much you’ll pay over the term, and what you need to qualify.
Check to see if you qualify first
Are you refinancing or purchasing?
Best bet is to see if you qualify first then see whether it makes sense to proceed.
Mortgage Terms
The mortgage term is the duration of your mortgage. If you have a 30-year mortgage, for example, you’ll make payments for 30 years. You may pay extra toward the principal, knocking the term down, but the term determines your required monthly principal payment.
You must pay off the principal before the term ends. The shorter the term, the more principal you pay each month. The term also affects your interest rate – the shorter the term, the lower the interest rate, in most cases.
The 30-year term is the most common, but you can also choose a:
- 10-year term
- 15-year term
- 20-year term
- 25-year term
Most common mortgage terms are 15 year and 30 year. In most cases, 15 year term gets more favorable interest rate than 30 year term. However, same cannot be said for 10 year than 15 year or 20 and 25 year than 30 year.
Fixed vs adjustable rates
Most homebuyers and homeowners opt for the fixed rate mortgage. It’s the most common mortgage loan type and the easiest to understand. The rate you lock in during loan processing is your rate for the duration of the term. Say for example you lock in a 4.0% rate for 30 years. Your rate remains 4.0% for 30 years unless you refinance or pay off the loan.
Fixed rate loans are available in the standard 10, 15, 20, 25, and 30 year as mentioned above.
Adjustable rates are a little different, however. You start with an ‘introductory rate,’ which is often lower than the fixed rate. The rate remains fixed for a specified period. For example, a 3/1 ARM has a fixed rate for 3 years and then adjusts annually at the end of the 3 years.
Adjustable rate loans are most commonly available in 3, 5, and 7-year intervals but still principal is amortized over 30 years. Buyers with short-term plans for the home benefit from the ARM, as you can save money on interest while in the home.
In modern days of mortgage lending, 30 year fixed interests are either comparable or even better than Adjustable Rate Mortgage (ARM) interest rates. Effectively rendering ARM program unattractive in most cases.
Conventional vs government Loans
Conventional and government loans have one major difference – the loan guarantee. Conventional loans don’t have a government guarantee. In other words, if you default on your mortgage, the bank may face great loss in their investment (your home) unless you have Private Mortgage Insurance, which only applies to borrowers with less than 20% down on the home.
Conventional loans have stricter requirements because of the lack of guarantee. Lenders typically look for:
- Good credit
- Stable income/employment
- Low debt-to-income ratios
- Decent down payment (not always 20% though)
Government loans have more flexible guidelines because they have the government’s guarantee of repayment if you default. Government loans include:
| Loan Programs | Highlights |
|---|---|
| FHA loans | – Any borrower with at least 580 credit score. – Minimum 3.5% down payment. – Less than 43% debt ratio (up to 57% possible in certain cases). – Known as the first-time homebuyer’s loan. – Good alternative for any borrower that doesn’t qualify for conventional financing. |
| VA loans | – Veterans of the U.S. military, National Guard, or Reserves may qualify. – Even some current military members qualify as long as they’ve served enough time in the military. – No down payment is possible if you’re eligible. – Most lenders allow 620 credit score and debt ratios as high as 50% (sometimes much higher with Automated Underwriting System approval). |
| USDA loans | – Borrowers living or buying a home in rural areas that doesn’t qualify for any other financing. – Must meet USDA income guidelines (you can make too much and not qualify). – Must buy a home in a USDA-designated rural area. – No down payment is possible but do need 640 or higher credit score and debt ratio of 43% or lower. |
Government loans do have funding fees and/or mortgage insurance that lasts for the life of the loan. But their flexible underwriting guidelines make up for the extra fees.
Unlike conventional loans, FHA loans require mortgage insurance even if you have more than 20% down. This monthly mortgage insurance is required for the life of the loan until you sell or refinance into conventional loan.
More: Conventional Loan VS FHA loan
Non-Conforming Loans
Any home loan types that don’t fall within the above categories are non-conforming. Typically, ‘jumbo loans’ or loans that exceed the FHFA’s conforming limits of $510,400 are the most common non-conforming loans.
Non-conforming or jumbo loans pose higher risks for lenders so they often have stricter guidelines including:
- Higher credit scores and/or stricter credit history requirements
- More than 10% down payment
- Low debt ratios
- Higher interest rates
- Reserves
Some lenders offer other non-conforming loan options for borrowers that don’t fall into the conventional or government-loan requirements. These non-conforming loans may offer:
- Loans for borrowers with low credit scores
- Loans for borrowers with high debt ratios, but can prove affordability
- Loans for borrowers with high loan-to-value ratios (low down payments)
Interest rates on non-conforming loans are typically higher than conventional or government loans due to the risk they pose.
Most common Non-Conforming loans are jumbo loans but there are many other types of mortgage available. There are bank statement loan, investor cashflow loan, foreign national loan just to name a few.
More: Non Conforming Loans
Reverse mortgage
Senior homeowners that own their homes free and clear may tap into the home’s equity with a reverse mortgage. Unlike a traditional mortgage, this mortgage loan type doesn’t require principal and interest payments. The interest accrues on the loan throughout its term, but you don’t have to pay it until you sell the home or it becomes a part of your estate upon your passing and your heirs sell it.
Borrowers can receive money from a reverse mortgage several ways:
- Equal monthly payments as long as at least one borrower lives in the home full-time
- Equal monthly payments for a specified term
- As a line of credit that you may draw on as you need
- Equal monthly payments for your lifetime and a line of credit
- Equal monthly payments for a specified term and a line of credit
Only borrowers age 62 and older may apply. The amount you receive depends on the age of the youngest borrower as it’s determined based on your life expectancy.
Choosing the right mortgage loan type is one of the most important decisions you’ll make when choosing a mortgage. Know your options and compare them to one another to choose the most affordable option now, while paying attention to how it affects your financial future as well.
