Potential Homebuyer? Take a look at Your Mortgage Options
Understanding the Pros and Cons of Each Along with 5 Different Types of Mortgage Loans + Options Best for You
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Congrats! If you’re coming across this article you might be planning out one of the biggest purchases you’ll ever make - the first home. It’s important to plan out the process carefully, to ensure you find the best home that caters best to your financial state. If you plan to finance the purchase of a home, you will need to look at all the available mortgage options.
A mortgage is defined as an agreement between you and a lender, where the lender can legally take your property away if you fail to pay back the money that you have borrowed. Mortgage loans can be used to purchase a home or borrow money against the value of a home someone already owns. Check out these important things to look out for when you’re exploring available mortgage options:
- The size of the loan.
- The interest rate and associated points.
- The closing costs of the loan and the lender’s fees.
- The Annual Percentage Rate (APR).
- The type of interest rate and whether it’s fixed or adjustable.
- The loan term: How long you have to repay the loan.
- Whether the loan has features such as a prepayment penalty, a balloon clause, an interest-only feature, or negative amortization. These features can be risky and should be avoided if possible.
Remember to think carefully when the lenders know how much money you are qualified to borrow. How much you’re qualified to borrow is different from how much you’re actually going to be able to repay, because you still need to leave room in your budget for other important expenses.
Types of Mortgages
The 5 most common types of home mortgage loans include the conventional, jumbo, government-insured, fixed-rate, and adjustable-rate mortgage. Continue reading to learn more about the pros and cons of each whether or not they may be the best option for your personal circumstances.
Conventional loans come in two forms that include conforming and non-conforming. Conventional loans are not backed by the federal government.
- Conforming loans: A conforming loan conforms to the standards set by the Federal Housing Finance Agency (FHFA). These standards include credit, debit, and loan size, and can reach almost $1 million in expensive areas!
- Non-conforming loans: These loans cater to borrowers who are looking to purchase more expensive homes.
Pros of Conventional Loans:
- Used for a primary home, second home, or investment property.
- Overall borrowing costs are usually lower than other types of mortgages, even if interest rates are slightly higher.
- You can cancel the private mortgage insurance (PMI) once you’ve reached 20 percent equity.
- Pay as little as 3 percent down on loans backed by Fannie Mae or Freddie Mac.
- Sellers can contribute to closing costs.
If you have a solid credit score and can afford a higher down payment, a conventional mortgage could be right for you. The 30-year, fixed-rate conventional mortgage is among the most popular choices for homebuyers. It’s important to note that you may need to pay PMI if your down payment is at least 20 percent less than the sales price.
Jumbo loans are most common in areas that are higher-cost such as Los Angeles, New York, and Hawaii.
Pros of Jumbo Loans:
- Can borrow more money to purchase a more expensive home
- Interest rates on jumbo loans tend to be competitive with other conventional loans
- Using a jumbo loan may be the only way for some borrowers to gain homeownership in areas that have higher home values
Those who wish to receive a jumbo loan must have significant assets in cash/savings accounts, along with a down payment of at least 10 to 20 percent. It’s safe to say this loan is best for those who have a decent amount of money in savings!
Three government agencies currently back mortgages. These agencies include the Federal Housing Administration (FHA), the U.S. Department of Agriculture (USDA) and the U.S. Department of Veterans Affairs (VA).
Pros of Government-insured Loans:
- Help you finance a home when you don’t qualify for a conventional loan
- Credit requirements are not as strict
- Large down payment not required
- Available to repeat and first-time buyers
- No mortgage insurance and no down payment required for VA loans
If you have trouble with a low credit score or qualifying for a conventional loan, a government-insured loan may be your best option.
With a fixed-rate mortgage, your monthly mortgage payment will always stay the same! The same interest rate is maintained over the life of the loan, and these loans typically will come in either 15 or 30 years. A fixed-rate mortgage is best for those who plan to stay in the home for at least five to seven years, making it easier to budget housing expenses through the months.
Adjustable-rate mortgages (ARM) come with interest rates that fluctuate, depending on the market conditions. Typically, ARM products will come with a fixed interest rate for a few years before a variable interest rate is set for the remainder of the term. You need to consider the amount your rate could potentially increase before you consider an ARM in your circumstance.
Pros of a ARM:
- Lower possible fixed rate in the first few years of homeownership
- Substantial amount of money can be saved on interest payments
Contrary to a fixed-rate mortgage, an ARM is best for people who don’t plan to stay in the home for more than a few years. It’s important to remember that there’s no guarantee of a price for the monthly mortgage payments, so they could become unaffordable for you.
Purchasing a home is a great achievement for many, with a new feel of pride and freedom. Take the time to do your research beforehand, and consider meeting with a mortgage broker to help you get through the process. Good luck!
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