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Home Purchase Loan Types

Posted on January 11, 2010 by tim in Buying, FHA, First Time Home Buyer, Mortgage

There are a wide variety of home loan products out there, including one that’s right for you. Here’s an informative look at general mortgage categories, including the advantages of each program and things to consider when choosing a loan. Featured programs include fixed rate and adjustable rate mortgages, interest-only loans, jumbo loans, and FHA and VA mortgages.

Main Types of Loans

There are mortgage loans to suit just about every financial situation. Generally, all fall into two main categories: Fixed Rate Mortgages, and Adjustable Rate Mortgages. 

FIXED RATE MORTGAGES
With a fixed rate mortgage, payments for the interest rate and the principal remain fixed over the life of the loan. As a result, monthly loan payments stay the same over the life of the loan. Taxes, however, may change according to your local or state tax laws.

Advantages:
– The interest rate stays the same—it doesn’t go up even if rates in the market do
– Monthly payments of principal and interest don’t change
– May be a good choice for home buyers who plan to own their home for a long time

Disadvantages:
– May cost more than other loan types—the interest rate is often higher than rates for adjustable rate mortgages
– A long-term loan may not be suitable for home buyers planning to move or refinance within 5 to 7 years

Types of Fixed-Rate Mortgages
Fixed rate mortgages traditionally have 15-year or 30-year amortization terms. With some lenders, in addition to 15- and 30-year terms, 40-year and 20-year options are also available. 

Which Term Will Work Best for You?

A Shorter Term:
– May be good for home buyers planning to own a home for a shorter time
– Loan is paid off more quickly
– Generates less interest over the life of the loan, so it costs less overall
– Translates into higher monthly payments
– Builds equity faster

 A Longer Term:
– May be good for home buyers planning to own a home for a longer time.
– Loan is paid off more slowly
– Generates more interest over the life of the loan, so it costs more overall
– Translates into lower monthly payments
– Builds equity more slowly

 ADJUSTABLE RATE MORTGAGES (ARMs)

With an adjustable rate mortgage (ARM), the interest rate is fixed for a certain number of years. Afterwards, the rate goes up or down periodically based on an economic index, which lenders use as a benchmark for interest rate adjustments.

The initial fixed rate, or “teaser rate” of an ARM is usually lower than the rate of a fixed rate mortgage. After the initial period, the rate adjusts based on the rate index used by the lender. With every rate adjustment, the mortgage payment will change.

The amount of time between rate adjustments is called the adjustment period. Many ARMs have a one-year adjustment period, meaning that the interest rate will adjust every year. Because rate adjustments can be unpredictable, most ARM programs offer a rate cap that limits the amount the interest rate can increase each year or over the term of the loan. The term for most ARMs is 30 years.

Advantages:
– The teaser rate keeps initial monthly payments low, which may enable home buyers to consider a more expensive home than might be possible with a fixed-rate mortgage
– If interest rates go down, the homebuyer will have lower payments
– May be a good choice for home buyers who relocate often or who plan to move after a few years (e.g. home buyers in the military or those buying their first home)
– May be suitable for homebuyers planning to refinance within 5 to 7 years
– May be appropriate for home buyers who like the initial payment stability but can afford later adjustments in interest

 Disadvantages:
– After the initial fixed rate period, the rate becomes adjustable and monthly payments could increase if interest rates go up
– May not be the optimal choice for home buyers on a fixed income who may only be able to afford monthly payments during the low teaser rate period
– May not be the best choice for homebuyers who plan to stay in their home for longer than the teaser rate period

INTEREST ONLY ARM

With an interest-only ARM, monthly payments for the initial period of the loan are made only on the interest. During this time, the interest rate is fixed.

Once the interest-only period is over, monthly payments are made on both the interest and the principal for the remaining term of the loan, and the interest rate is adjusted every year. Interest-only ARMs are available with three-, five-, seven-, and 10-year interest-only terms.

Example: For a three-year interest-only ARM loan, monthly payments are only made on the interest for the first 3 years of the loan. Starting in the fourth year, payments are made on both interest and principal for the remaining life of the loan.

JUMBO LOANS

A loan for an amount of money larger than the conforming loan limit set by the government-backed agencies Fannie Mae and Freddie Mac is called a jumbo loan. The agencies buy groups of mortgages and re-sell them as investments. The conforming loan limit is the maximum loan amount that these agencies will buy.

FEDERAL HOUSING ADMINISTRATION (FHA) MORTGAGE

A mortgage secured by the Federal Housing Administration (FHA) requires a down payment as low as 3.5% of the purchase price. FHA loans are designed to make purchasing a home more affordable than it would be with a conventional loan, especially for the first-time home buyer. FHA loans are subject to limits on the amount of money that can be borrowed. These limits vary from state to state.

FHA loans offer these great benefits:
Low down payment-as little as 3.5%
– Ratios that make it easier for you to qualify
– You can use gifts and cash on hand for closing costs
– May be more affordable than a conventional loan

VETERAN AFFAIRS (VA) MORTGAGES

A mortgage guaranteed by the Department of Veteran Affairs (VA) requires little or no down payment.VA loans are available only to military personnel, veterans, or the spouses of veterans who died of service-related injuries. VA loans are designed to make purchasing a home more affordable than it would be with a conventional loan. Under the law, veterans are entitled to VA home loan benefits based on military service. Eligible veterans must still meet credit and income standards in order to qualify for a VA-guaranteed loan.

If you have additional questions regarding types of loans or other loan products, please contact us and we will direct you to a qualified lender. teamannett@gmail.com


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