Are you looking for a home for the first time? Perhaps you’re looking to refinance into a fixed-rate mortgage.
Overall, different types of mortgage loans include conventional mortgages, government-backed mortgages, fixed-rate mortgages, adjustable-rate mortgages, and jumbo loans. These loans have higher interest rates than the others.
Further, some have more flexible standards than others. For example, government-supported mortgages usually have more flexible standards than conventional loans.
This article will show you how to choose the best mortgage loan for you. Let’s explore.
A conventional mortgage is a loan not backed by the federal government. Rather, the loan is 100% backed by a private lender. Lenders have different standards, but they generally abide by the following guidelines:
- The borrower must have a minimum 620 score or above
- The borrower must have a DTI of 50% or less
- The borrower must spend less than 36% on debt payments and 28% of their pre-taxable income on house payments.
Moreover, there are two different types of conventional home loans:
- Conforming Loan: A conforming loan meets the guidelines of Fannie Mae and Freddie Mac. Both organizations are government-supported, and these organizations buy mortgages from lenders.
- Nonconforming Loan: This type of mortgage surpasses the loan limit of government-backed enterprises. Jumbo loans fall into this category.
With conventional loans, you’re more likely to benefit from a lower interest rate. Also, lenders are more willing to provide wider down payment options. The best home loans have a flexible down payment plan.
For example, you can choose to pay less than 20% of the down payment. If you pay 20%, however, you’ll benefit from a lower payment, and you may not have to pay for private mortgage insurance (PMI).
A standard mortgage usually comes with faster processing times than government-backed mortgages as well. Conversely, applicants don’t have much support if they cannot afford the down payment.
Government-sponsored mortgages help borrowers who otherwise wouldn’t qualify for a conventional mortgage. FHA loans, for example, help homeowners struggling with low credit.
FHA applicants with a minimum 580 score can get up to 96.6% financing and a 3.5% interest rate. The FHA also accepts scores as low as 500, but borrowers must pledge a minimum 10% down payment. Other government-backed loans include USDA loans and VA loans.
Government-sponsored mortgages usually have lenient standards. However, these loans tend to have higher borrowing costs. The borrowing costs may entail interest rates and various fees associated. Also, these loans usually have mandatory insurance requirements.
Additionally, you may face additional hurdles, as you’ll typically need to show extensive documentation to qualify. As a result, these requirements slow down the process. That said, VA loans tend to offer the best benefits, but these loans are only available to veterans.
The standards for a fixed-rate mortgage aren’t flexible as a government-supported mortgage, but you’ll benefit from a set interest rate.
Under a fixed-rate loan, the rate won’t change throughout the loan’s lifetime. The interest and principal may change monthly, but the total amount you’ll pay will remain the same.
A fixed-rate option allows you to budget accordingly. Further, you won’t have to contend with abrupt changes in interest rates that can increase your payments. Also, the early payments will primarily comprise tax-deductible interest.
The primary con is that you may be stuck with a higher interest rate. These loans also come with higher monthly payments. Fixed-rate mortgages also fall into the conventional loan category, which comes with higher standards than other types of mortgages.
An adjustable mortgage offers a variable interest rate. The interest rate is usually below the market value of a fixed-rate mortgage and will increase over time.
If you’re not careful, an adjustable mortgage can surpass the interest rate of a fixed-rate plan.
- Note: Some lenders offer a hybrid mortgage called a 5/1 adjustable-rate mortgage. It begins as a five-year fixed-rate plan and shifts to an adjustable plan. If you choose this path, ask what the interest will be after the fixed period ends.
Overall, the fixed-rate interval of an ARM can be anywhere from a month to 10 years. The new interest rate will reflect current market conditions. Despite the varying interest rates, these loans are generally cheaper than the fixed-rate alternative.
A jumbo loan is for borrowers who want to borrow a large amount of money. A jumbo loan usually involves a borrowing amount of $500K and above.
It surpasses the loan limit of the federal housing agencies. For this reason, Fannie Mae and Freddie Mac won’t purchase jumbo loans.
Despite the high borrowing amount, the APR on a jumbo loan is usually the same as a standard loan. Downpayments usually hover between 10 to 15%. The problem is that jumbo loan lenders impose strict standards, such as:
- Cash reserves that cover between 6 to 18 months of the mortgage payments.
- A credit score of 680 or more.
- A max debt ratio of between 38 to 43%
Lenders may also require additional documentation to verify your income and reserves. You may also go through additional screening measures if you’re self-employed. Lenders may impose additional requirements, such as issuing a second appraisal.
Different Types of Mortgage Loans: Which One is the Best for Me?
When it comes to the different types of mortgages, the best one depends on your budget and preference. If you want a set interest rate, opt for a fixed-rate mortgage instead of a variable mortgage.
If you’re having trouble paying the down payment, or if you have a low credit score, look into a government-backed mortgage. If you want a larger house, a jumbo loan is the best option.
Interested in reading more? Read more on our blog to gain insight into other financial topics.