You're thinking about buying a home — but do you know which type of mortgage is best for you? Let's go over the pros and cons of conventional loans, jumbo loans and government-backed loans, as well as the difference between fixed rate and adjustable-rate mortgages, so you can determine the right mortgage option for you.
Here are the 5 most common types of mortgage loans (loan guidelines may vary from lender to lender);
1.) Conventional loans
There are two categories of conventional loans — conforming and non-conforming.
A conforming loan is the most common conventional loan. It meets the guidelines to be sold to Fannie Mae or Freddie Mac, two of the largest mortgage investors in the country. You’ll need a minimum credit score of 620 to take out this loan, and lenders typically prefer a maximum debt-to-income ratio of 43 percent. You’ll also need at least 3% down — but if you put less than 20% down keep in mind that you’ll need to pay for private mortgage insurance (PMI).
Pros: More common loan option
Cons: Limited to $766,550 in most areas
A non-conforming loan does not meet the guidelines of Fannie Mae or Freddie Mac. For this loan you can take out a loan with a lower credit score. The maximum debt-to-income ratio and minimum down payment that is required varies from lender to lender.
Pro: Typically no limits on loan size (loan guidelines will vary from lender to lender)
Con: Usually more expensive than a conforming loan
2.) Jumbo loans
A jumbo loan exceeds the loan-servicing limit that’s set by Fannie Mae and Freddie Mac, which is currently $766,550 for a single-family home in every state except for Hawaii and Alaska. There are also a few federally designated high-cost markets where the limit is $1.149M.
Pro: You only need to put 10%-15% down
Con: You’ll need a really good credit score for this loan, at least 740 or higher. You’ll also need a debt-to-income ratio that’s closer to 36% than the normal 43%
3.) Government backed loans
Government-backed loans are offset by the federal government or they’re subsidized. Applicants applying for one of these loans can usually obtain one from a private lender of their choice, depending on its size. Below are specific government-backed loans:
An FHA (Federal Housing Administration) loan can be used to buy a property of up to four units, as long as one of those will be your primary residence. This loan will also require a special FHA appraisal, which can be completed by an FHA-approved home appraiser.
Pro: This loan is easier to qualify for if you’re building credit or need to make a smaller down payment. FHA loans have more flexible credit guidelines where you only need to put 3.5% down.
Con: You’ll need to pay PMI, which adds more money to your monthly mortgage payment.
You’ll have to pay the 1.75% mortgage insurance premium up front, then an annual premium of 0.15% to 0.75%. You’ll have to pay this for the life of the loan, unless you have a down payment of 10% or more — then the PMI will be dropped after 11 years.
A VA loan is a loan offered by the Department of Veterans Affairs that helps service members, veterans and their spouses purchase a home. The VA sets the terms for the loan qualification, not the lender. One of the biggest qualifications for this loan is serving a certain amount of time in active duty. You can find those qualifications and amount of time here.
Pro: You may not need a down payment, as long as the sale price doesn’t exceed the appraised value, so you also don’t need to pay PMI.
Con: Sometimes the interest rates are higher than a conventional loan, although there’s a chance that they could be negotiable; most borrowers also need to pay a VA loan funding fee (usually between 1 and 3% of the loan amount).
4.) Fixed-rate mortgage loans
For this type of mortgage, the interest rate won’t go up (or down), like it would with an adjustable-rate mortgage
Pro: Your rate won’t increase over the course of the loan (no matter how high rates get).
Con: If interest rates are high, payments may be higher than a comparable adjustable-rate mortgage.
5.) Adjustable-rate mortgage loans
Also referred to as an ARM, this adjustable mortgage type has an interest rate that fluctuates over the course of the loan. This type of loan is a little complicated and is different for everyone, so If you want to learn more about ARMs, there’s a lot of great info here.
Pro: Your mortgage interest rate can go down if interest rates go down.
Con: If interest rates increase, so will your mortgage payment.
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