Common Types of Mortgages
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A 30-year, fixed-rate mortgage with a 20% down payment isn’t the only way to finance a home purchase. Before you pull the trigger, consider a few of the most common types of mortgages and determine which one could offer you the most benefit.
What is a fixed-rate mortgage?
A fixed-rate mortgage (FRM) is the most common type of home loan. One of the main benefits is that even though the proportion of principal versus interest on your bill will change over the course of the loan, you’ll still pay the same amount every month. Your interest rate is locked in when you close on the loan, so you aren’t vulnerable to sudden increases in interest rates.
Of course, while you aren’t vulnerable to interest-rate increases, you’ll lose out if rates decline — you’ll be stuck paying the higher rate unless you can refinance. It can also be harder to qualify for a fixed-rate mortgage if your credit score is less than stellar.
Fixed-rate mortgages are offered for 10-, 15- or 30-year terms, with the latter being the most popular choice. Longer terms mean lower payments, but they also mean it will take longer to build equity in your home. You’ll also pay more interest over the life of the loan.
What is an adjustable-rate mortgage?
ARMs make buying a home more accessible by offering lower initial interest rates and payments. The interest rate remains constant for a certain period of time — generally, the shorter the period, the better the rate — then it can rise or fall, depending on market factors. Generally, ARMs offer the lowest mortgage rates available for home loans.
The main downside is obvious: If your ARM begins to adjust when interest rates are rising, your escalating payments could start to squeeze your budget. It can also make annual budgeting tricky, and if you want to refinance with a fixed-rate loan, the cost can be quite steep. Ultimately, with an ARM, you’re accepting some of the risk that your mortgage lender would absorb with a fixed-rate loan.
There are several kinds of ARMs. One-year ARMs typically offer the lowest mortgage rates, but they’re also the riskiest because your interest rate adjusts every year. At slightly higher rates, hybrid ARMs offer an extended initial fixed-rate period. Common hybrid loans include 5/1 mortgages, which offer a fixed rate for five years and then and an annually adjustable rate for the next 25 years.
What is an FHA loan?
Federal Housing Administration (FHA) loans are government-backed mortgages that require much smaller down payments than their conventional counterparts. In fact, you may qualify for an FHA loan with as little as 3.5% down, but you’ll likely be on the hook for mortgage insurance each month in order to help the lender blunt some of the risk. These loans are ideal for those who can’t afford a huge down payment, and may not have a great credit score, but have a steady income.
What is a VA loan?
VA (Department of Veterans Affairs) loans are also government-backed mortgages available with low (or even no) down-payment options, and they don’t require the mortgage insurance that FHA loans do. However, the VA typically charges a one-time funding fee that varies according to down payment. You must have a military affiliation to get a loan — active-duty members, veterans, guard members, reservists, and certain spouses may qualify.
Source: thesimpledollar
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