10 Types of Home Loans To Know About
- November 22, 2022
- by Angela
Are you in doubt about which mortgage is the best for you when buying a house? If you haven't decided yet, we can help you make the best decision for you, because in this article I will outline the 10 types of mortgages.
1) Conventional loans
This type of loan represents any type of mortgage that is not backed by the federal government. These loans have higher minimum credit score requirements than other types of loans. If borrowers pay less than a 20% down payment, they are usually required to pay private mortgage insurance (PMI) on this type of mortgage loan. PMI is an additional 0.5% - 2% per payment that insures the lender, not you, in case you default.
One of the most common types of conventional mortgages is the conforming loan. This loan has its advantages and disadvantages. It can be used for a variety of purchases, from a primary home to investment properties. You can also get rid of PMI when you reach 20% equity. On the other hand, you must have at least a 3% down payment, and as already stated you must pay PMI if you put down less than 20%. This loan is ideal for borrowers who have a steady income and employment history, with strong credit and a down payment of at least 3%.
2) Fixed-rate mortgages
With a fixed-rate mortgage, the interest rate will remain the same throughout the loan repayment period. This loan is usually taken for 15 and 30 years. This guarantees your interest rate will stay the same unless you choose to refinance.
This option gives you stability and you can manage your housing budget much better.
To calculate your payment on a fixed rate loan, see our PITI calculator, which stands for payment, interest, taxes and insurance. To compute a mortgage loan's full amortization table, total interest paid, and how paying ahead impacts the timeline see our mortgage payment calculator.
The advantage of a fixed-rate loan is that your monthly payment of principal and interest will not change, because the interest rate does not change. However, your payment will go up slightly over time due to increases in taxes and insurance (escrow portion of the payment). The only downside to a fixed-rate loan is it is not the lowest possible rate (see ARMs next).
3) Adjustable-rate mortgages (ARMs)
An adjustable-rate mortgage (ARM) is a type of mortgage where the interest rate starts fixed for a given number of years and then can be adjusted UP by the bank every so many year. One popular ARM option is the 5/1 ARM, which means that the interest rate is fixed for the first five years, and then changes every year after that depending on the agreement.
ARMs usually start at a lower interest rate than fixed-rate loans but then can increase to well above prevailing rates. The advantages of ARMs are they can put larger homes within reach of borrowers, provide savings on interest payments, and smaller down payment requirements. The disadvantages of this loan are that you can get trapped into very high interest and payments after the fixed portion of the loan expires. If you know you will only be in a property for a certain number of years and ARM might make sense.
4) High-balance loans
For homes that are too expensive to be considered “confirming” this program allows borrowers to access funds with just 5% down. High balance loans are only available in counties with a very high cost of living. Eligibility criteria (minimum loan amount, maximum loan amount) varies from county to county. A credit score of 620 and up is required to get a high-balance loan.
5) Jumbo mortgages
Jumbo mortgages are large conventional loans that are most often used to purchase a luxury home.
In some cases a high-balance loan and a jumbo loan could both work. However in the case of Jumbo loans there is a lot more flexibility. Jumbo loans have no maximum amount and they are available everywhere. The downside is if you are required to go with a jumbo loan, a 20% down payment is required and your credit score needs to be at least 680.
If you decide on this loan, you can take up to a million dollars, only if you meet the conditions. The advantages of this loan are that it can be used for different types of property, and the interest rates are similar to conventional loan rates.
The disadvantages of this loan are that a larger payment is required if you want to use it for a second home or investment property, and in addition, they require high credit scores.
6) FHA loans
This type of loan is named after the Federal Housing Administration (FHA) because it supports loans given to borrowers who have bad credit and limited funds for a down payment.
If your credit score is 580 you can qualify for an FHA loan. The minimum down payment is just 3.5%. If you happen to have a credit score between 500 and 579 you will need a 10% down payment.
In 2022, the loan limit in most US counties was $420,680 for a single-family home. In areas where costs are high, the limit of this loan is $970,800.
These loans have mandatory mortgage insurance premiums. If you invest less than 10%, you will pay the mandatory mortgage insurance over the life of the loan, unless you decide to refinance into a conventional loan, after you have built up at least 20% equity.
The advantages of this loan are its availability to first-time buyers and repeat buyers, there is no income limit, and you can qualify for conventional loans more easily.
The downsides to this loan are that you have to live in the property, even if you rent out other units, and the loan limits are lower than what some conventional loans offer.
7) Veterans Affairs (VA) loans
VA loans can be taken out by military service members, veterans, and eligible spouses. This loan is supported by the US Department of Veterans Affairs (VA). In most cases, these loans do not require a down payment. Although this loan does not have a minimum credit score requirement, lenders expect to see a good credit score.
The advantages of this loan are that there are no income or credit limits, there is no need for mortgage insurance and they offer loans for the purchase, renovation, or purchase of a new home.
The cons of this loan are that you have to pay a VA financing fee and VA-approved appraisers must be used. If you are building a custom home you must have VA-approved construction workers.
8) USDA loans
This loan is named after an institution that insures loans given to low- and moderate-income buyers who want to buy a home in certain rural areas. This loan is approved by the US Department of Agriculture (USDA) and these home loans do not require a down payment or mortgage insurance, but there are income restrictions.
The advantage of this loan is that it is available for a wide variety of home types ranging from single-family homes to modular and manufactured homes and newly constructed homes. The disadvantages of these loans are that some USDA loans have limits on how big the property can be and what benefits it can have. Some of the other cons are that the home must be your primary residence, and you must pay an annual warranty fee.
9) Second mortgages: Home equity loans and HELOCs
Second mortgages and home equity lines of credit (HELOCs) can be used in two ways. The first way is to immediately take out a second loan when buying a home to reduce your down payment. The second loan will generally have a higher interest rate, additional feeds, etc. This can be a strategy for reducing your overall downpayment but may require a high credit score.
The second use is to take equity out of the home to pay for renovations, emergencies, etc. HELOC rates may be more favorable than auto loan rates, so in some cases, it would make sense to use a HELOC to buy a new car vs taking an auto loan or personal loan.
Second loans can be fixed rates or adjustable rates. HELOCs generally have variable rates and work more like credit cards. Funds can be used, repaid, and used again, as long as access to the credit line is open and in good standing.
The disadvantage of this loan is that the rates are higher and qualification requirements are stricter than with a first mortgage.
10) Reverse mortgages
Homeowners who are 62 years old can qualify for a reverse mortgage. It works as the name suggests - here it is not the homeowner who pays the lender, but the lender who pays the homeowner from the available equity - in a lump sum or monthly.
A home equity conversion mortgage (HECM) is the most common type of reverse mortgage. This mortgage is insured by the FHA and comes with a few upfront ongoing costs. This, like the FHA loan, has limitations. There are many ways to pay off a reverse mortgage, including selling your home or refinancing to take out a second mortgage to cover what you owe.
The advantages are that you can pay off the first mortgage with a reverse mortgage.
The disadvantages of this loan are that the age of the youngest spouse determines the qualification. Also if you do not properly maintain the house, it can be taken away from you.