5 Types of Home Loans for Home Buyers: What to Understand

As a prospective home buyer, it is important to research types of mortgages as it is to look into the neighborhoods you are considering calling home. Applying for a home loan can be complicated, and deciding which type of mortgage best suits your needs early on will help direct you to the type of home you can best afford.

Continue to read to find the different mortgage loan types, the advantages and disadvantages of each one, and the requirements that influence your rate, loan terms, and your lender.

Understanding the 5 Types of Mortgage Loans

5 Types of Home Loans for Home Buyers: What to UnderstandA variety of mortgage options exist, including conventional, fixed-rate, and adjustable-rate mortgages, as well as government-backed and jumbo loans. The loan that will best suit your needs will depend solely on the type of mortgage applicant you are–whether it be a first-time homebuyer, or you are looking to downsize or refinance.

1. Conventional Mortgages

Brian Piercy of The Home Search had this to say about conventional mortgages:

"Conventional mortgages are the most common type of mortgage. Conventional loans may have different requirements for a borrower's minimum credit score and debt-to-income ratio (DTI) than other loan options. Generally, you can qualify for a conventional mortgage with a minimum credit score of 620 and a DTI of up to 50%. Conventional loans are a good choice for most borrowers who want to take advantage of lower interest rates with a larger down payment." 

Pros of Conventional Mortgages 

  • Low Cost. The overall borrowing cost after fees and interest tends to be lower than with other loan types.
  • Low Down Payment Requirements. Your down payment can be as little as 3% to 5% for qualifying loans.

Cons of Conventional Mortgages 

  • PMI Costs. You have to pay PMI if the down payment is less than 20%.
  • Must Meet Requirements. You will have to meet specific requirements that may include a higher minimum credit score of 620 and a lower DTI.

2. Fixed-Rate Mortgage

A fixed-rate mortgage has the same interest rate and principal payment throughout the loan. The amount you pay per month might fluctuate if there are any changes in property taxes and insurance rates, but for the most part, fixed-rate mortgages offer you a very predictable monthly payment. A fixed-rate mortgage is a great choice for those looking for a "forever home." You might want to avoid fixed-rate mortgages if interest rates, you are stuck with your interest rate for the duration of your mortgage unless you choose to refinance.

Pros of Fixed-Rate Mortgages 

  • Consistent Payments. Monthly principal and interest payments don't change over the life of your loan, making it easier to create a budget.
  • You Will Pay Off Your Loan. Your loan can be fully amortized over the term of the mortgage.

Cons of Fixed-Rate Mortgages 

  • Higher Rates. You'll pay a higher rate than the introductory rate you could get on an adjustable-rate mortgage.
  • More Interest. You may end up paying more in interest over time if the rates are high.

3. Adjustable-Rate Mortgages

The opposite of a fixed-rate mortgage is an adjustable-rate mortgage (ARM). ARMs are 30-year loans with interest rates that change depending on how market rates move. After your introductory period ends, your interest rate changes depending on market interest rates. Your lender will look at a predetermined index to calculate how rates are changing. Your rate will go up if the index's market rates go up. If they go down, your rate goes down. Adjustable-rate loans can be a good choice if you plan to buy a starter home before moving to your forever home. You can easily take advantage and save money if you don't plan to live in your home throughout the loan's full term. These can be beneficial if you plan on paying extra toward your loan early on. ARMs can give you some extra cash to put toward your principal.

Pros of Adjustable-Rate Mortgages 

  • Low Interest Rates. They offer lower interest rates for the initial introductory period.
  • Low Monthly Payments. The initial low monthly payments allow for a more flexible budget and the opportunity to build up savings.

Cons of Adjustable-Rate Mortgages 

  • Payments Can Increase. If the rate increases, it can dramatically increase your monthly payments once your introductory period is over.
  • Fluctuating Rates. It is more difficult to predict your financial standing if interest rates and mortgage payments fluctuate.

4. Government-Backed Loans

Government-backed loans are insured by government agencies, like FHA, Veterans Affairs (VA), or Department of Agriculture (USDA). When lenders talk about government-backed loans, they're referring to three types of loans: FHA, VA, and USDA loans. Government-backed loans may offer more options for qualification. Each government-backed loan has specific criteria you need to meet to qualify along with unique benefits, but you might be able to save on interest or down payment requirements, depending on your eligibility.

Pros of Government-Backed Loans 

  • Lower Closing Costs. It is possible to save on interest and down payments, which could mean reduced closing costs.
  • Wider Qualifications. These loans may offer wider qualification opportunities for borrowers.

Cons of Government-Backed Loans

  • Must Meet Certain Criteria. You must meet specific criteria to qualify for various government-backed loans.
  • Higher Costs. Many types of government-backed loans have insurance premiums that are required upfront, which can result in higher borrowing costs.

5. Jumbo Loans

A jumbo loan is worth more than conforming to loan standards in your area. You would usually use a jumbo loan if you wanted to buy a high-value property. Jumbo loan interest rates are similar to conforming interest rates, but they are usually more difficult to qualify for than other types of loans. You need to have a higher credit score and a lower DTI to qualify for a jumbo loan.

Pros of Jumbo Loans

  • Consistent Rates. Interest rates are similar to conforming loan interest rates.
  • Ability to Buy Pricier Homes. You can borrow more for a more expensive home.

Cons of Jumbo Loans 

  • Strict Qualifications. Qualification for a jumbo loan typically requires a credit score of 700 or higher, more money for a down payment, and/or cash reserves, and a lower DTI ratio than other loan options.
  • Larger Down Payment. You will need a large down payment, typically between 10%-20%.

The Bottom Line

There are many mortgage options to choose from. The best type of mortgage loan depends on your individual preferences and situation. Before choosing your home loan, calculate your estimated purchase and refinancing costs to figure out how much you'll need to borrow from your mortgage lender. Prospective home buyers have a lot to consider when choosing from different types of loans available, as your credit score, income, debt, and property location all influence the home-buying process and the type of mortgages you can get. Let the professionals at Rex Edwards Jr., Broker guide you in finding your forever dream property in Texas Hill County today!

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