When buying a home, whether as an investment property or as a primary
residence, figuring out which mortgage is right for you can be a tricky task
that can either save you money or cost you money. To make things just a
little bit easier for you, here’s an overview of the different types of
mortgages that are available so you can make an informed decision.
Fixed-Rate
If you’re looking for something with some consistency while buying and
owning a home, a fixed-rate mortgage can offer just what you need. A
fixed-rate mortgage remains at the same interest rate for the entire life of
the loan. For example, whether you have 10 years or 30 years left on your
mortgage, the rate will always remain the same.
A fixed-rate mortgage can be ideal for those borrowers on a tight budget
because it will have the same monthly payment for the principle and
interest amount. However, once decided on a fixed-rate, the rate does not
change even if the standard financial indices that determined these rates
do. This means borrowers would not be able to benefit from reduced
interest rates if/when they decrease, but they will also not be impacted by
increased rates if/when the rates increase.
Adjustable-Rate
In contrast to a fixed-rate mortgage, an adjustable-rate mortgage’s interest
rate varies over the loan’s lifetime. Adjustable rates often go up or go down
based on a standard financial index, such as the Treasury bill yield or the
Federal Reserve. Typically, an index or range of the interest rates is
provided when selecting a mortgage, but these can vary with time because,
as the standard financial index shifts, the lender adjusts the interest rates.
An adjustable-rate mortgage can be advantageous if buyers are looking to
take advantage of a period of low-interest rates.
Some adjustable-rate mortgages feature combinations of fixed and
adjustable interest rates. For example, lenders may offer an adjustable
mortgage with an introductory fixed rate for five years, and then after that
initial five-year period expires, the interest rate will fluctuate annually or
several times a year after that.
Federal Housing Administration (FHA) Loan
The Federal Housing Administration (FHA) is umbrellaed by the United
States Department of Housing and Urban Development (HUD). Since 1934,
FHA insures a loan so that your private lender can offer lower down
payments, closing costs, and relaxed requirements for loan qualifications.
FHA resources and loans can offer assistance for renters and homeowners
to afford their payments. They also ensure fair lending to all races,
religions, sexes, and disabled persons. More information on eligibility can
be found here.
Veterans Affairs (VA) Loan
The Veterans Affairs (VA) Loan was created in 1944 by the United States
government to help veterans, service members, and their families purchase
a home with little to no down payment or exceptional credit after serving
their country.
There are two types of VA home loans: direct and VA-backed. In the former,
the VA acts as the mortgage lender, helping you apply for and manage your
loans. These rates are often better (i.e. lower, more competitive) than a
private bank or other lenders. For a VA-backed home loan, a portion of your
home loan is guaranteed by the VA; thus, making it easier for you to meet
private lenders’ qualifications for a home mortgage.
The VA home loans have also allowed veterans and service members to
put $0 down on a mortgage to purchase a home! The backing of the loan
by the VA also means that veterans and service members may have access
to more competitive interest rates, relaxed loan qualifications, and banks
do not require private mortgage insurance. It’s no wonder that the VA has
helped over 24 million American veterans and service members find a
home for their families! More information is available here.
Balloon Mortgage
A balloon mortgage is a type of loan that starts with low (interest only) or
no monthly payments; however, the full balance of the loan is due in
full—along with any interest—at the end of the loan period. It is called a
“balloon” mortgage because the full balance of the borrowed amount is not
due back until the end of the loan term, so the payments get very large at
the end of the loan lifetime.
Balloon mortgages can have fixed or variable/adjustable interest rates but
are more common in commercial real estate than in residential. However,
borrowers may prefer a balloon mortgage if they are only looking to own a
home for a short period. In this case, the homeowner will pay only interest
rates until they sell the home, then use the sale of the home to pay back
their remaining balance.
This type of mortgage can be risky, though. The homeowner must be able
to repay the loan at the end of the term or refinance it for at least the
amount of the balloon payment, pending approval from the lender. The
balloon mortgage also reduces the homeowner’s equity during
homeownership. Construction businesses may opt for balloon mortgages
because these mortgages allow for short-term financing without collateral.
Once the company has built the new property, it may refinance the balloon
mortgage at a lower rate by leveraging the new building as collateral.
Jumbo Loan
Just like homes, loans also come in all shapes and sizes. As the name
implies, jumbo loans are mortgages to finance more expensive homes than
a conventional conforming loan may cover. The Federal Housing Finance
Agency (FHFA) sets the ceiling of these conforming loans at $510,400 for
2020 (but can vary by state and county), so any mortgage for a home more
expensive is considered non-conforming, or jumbo. With more money,
comes more strict qualifications from your lender. For a jumbo loan,
borrowers should expect to have a higher credit score (700+), 20%+ down
payment, and little debt compared to their income to qualify for their non-
conforming loan.
United States Department of Agriculture (USDA) Loan
The United States Department of Agriculture (USDA) offers specialized
mortgages for low- to moderate-income homebuyers in rural areas. The
USDA offers these loans to those who do not make more than 15% of the
local median salary live in a locality with a population under 20,000. To
qualify, one must have a steady income, 640+ credit score, and a 41% or
less debt-to-income ratio. The USDA backs these loans from private
lenders, and this allows rural buyers to finance the entire purchase price of
the home ($0 down!) and get competitive fixed interest rates on their
mortgage. More information can be found here.