Home Loans

When you buy a new home, you can pay for your home with a combination of cash and a home loan (or mortgage). A mortgage is a loan to help buy your home. When you get a home loan, you will sign a promissory note, or legal commitment to repay your home loan, which will include your monthly payment and the length of your loan term. There are many options for the length of your loan term. The most common option to pay off your home loan is 30 years, although home buyers may choose 15 years, 10 years, 7 years, 5 years or an alternative time period. A shorter loan term means you will have a higher monthly payment, whereas a longer long term means you will have a lower monthly payment. Check with your lender for home loan repayment options. You will also sign a mortgage, which include financial information about your home loan as well as the lender’s recourse if you default on your home loan. A home loan is a secured loan, which means if you don’t repay your mortgage, a lender has a right to take your home. Once you pay off your home loan in full, however, you won’t owe any further monthly payments and the lender will remove the lien that gave your lender a right to your home if you defaulted on your home loan.

There are many types of home loans, or mortgages, that are available to different types of borrowers depending on your financial goals and needs. Here are the most popular types of mortgages:

1. 30-year fixed mortgage

A 30-year fixed mortgage means that the interest rate will stay the same for the entire 30-year loan repayment period. Since you have 30 years to repay this mortgage, the monthly payments are relatively low compared to a mortgage with a shorter duration such as 10 or 15 years. The advantages of a 30-year fixed mortgage include predictability (the same interest rate for 30 years), the ability to purchase a more expensive home given smaller monthly payments, and a large tax deduction based on the amount of interest you pay. The disadvantages of a 30-year fixed mortgage include relatively higher interest rates and more total interest over the life of the mortgage.

2. 15-year fixed mortgage

A 15-year fixed mortgage has the same interest rate for 15 years. This means that your interest rate will not change over the full life of your mortgage, even if underlying interest rates change. A 15-year fixed mortgage is a popular type of mortgage because you can save interest costs. Why? Rather than paying your mortgage over 30 years, you can pay off your home loan after 15 years, which saves interest costs. The disadvantage of a 15-year mortgage is that your monthly payments will be relatively higher compared with your monthly payments for a 30-year mortgage.

3. Adjustable-rate mortgage (ARM)

An adjustable-rate mortgage is a home loan that has a fixed interest rate for a certain time period, and then adjusts to a variable rate. For example, a 5/1 ARM has a fixed interest rate for 5 years and then converts to a variable rate annually thereafter. There are other types of ARMs such as an 7/1 ARM (which has a fixed interest rate for 7 years) or a 10/1 ARM (which has a fixed interest rate for 10 years). The advantages of an ARM include the ability to get a low interest rate in the early years of the mortgage. If you plan on paying off your mortgage or selling your home while the interest rate on your home loan is fixed, then an ARM may be a smart financial move. Therefore, ARMs are best for homebuyers who don’t plan to have a mortgage for a long time or who believe that interest rates will be lower than in the future.

4. Jumbo mortgage

Jumbo mortgage loans are mortgages above a certain dollar amount and are typically reserved for higher-priced homes. The amount of a jumbo mortgage can vary by county and the amounts are adjusted.Jumbo mortgages are available in both fixed interest rates and variable interest rates. A down payment of at least 10% and a credit score of at least 700 are typically required to get a jumbo mortgage.

5. Interest-only mortgage

An interest-only mortgage means that you only pay interest on your mortgage during an interest only period. As a result, your monthly mortgage payments only cover your interest charges and do not reduce your principal balance. Typically, an interest-only mortgage can be useful if you plan to have a mortgage for a short period of time, or if you plan to pay off your principal balance periodically in addition to making monthly interest payments. To get an interest-only mortgage, you may have to show your lender proof of funds, stable and recurring monthly cash flow or significant assets to provide comfort to lenders that you can repay your mortgage.

6. FHA mortgage

An FHA mortgage is a home loan that is insured by the Federal Housing Administration (FHA). FHA mortgages are different than conventional mortgages such as a 30-year fixed mortgage or 15-year fixed mortgage. With an FHA mortgage, the downpayment can be as low as 3.5% compared to the usual 20%. Since the downpayment is less than 20% with an FHA mortgage, a lender will likely require the borrower to purchase mortgage insurance. FHA mortgages are typically available to borrowers with limited financial means as well as mortgage borrowers with a credit score as low as 500.  So, if you need to make a down payment of less than 20% or you have a low credit score, an FHA mortgage may be best for you.

7. VA mortgage

VA mortgages are mortgages backed by the U.S. Department of Veterans Affairs and they are available to military service members and veterans. With a VA mortgage, there is no down payment or mortgage insurance required. That said, a VA mortgage borrower will have to pay a one-time VA funding fee, which can be paid upfront or rolled into the mortgage. The VA funding fee helps cover the costs if a borrower defaults. VA mortgages have relatively low interest rates.

8. USDA mortgage

A USDA mortgage is a home loan that is backed by the U.S. Department of Agriculture. Most USDA mortgages don’t require a down payment and offer low rates. The downside is that there are limits on income and property value.

You can get the lowest mortgage rates by comparing rates and loan terms with multiple lenders. Lenders will evaluate several criteria when you apply for a home loan. If you have a high credit score, stable employment, recurring monthly income, a low debt-to-income ratio and at least 20% equity in your home, you may be well-positioned to get a low mortgage rate. That said, if you don’t meet this criteria, you could still qualify for a competitive rate.

To get a home loan, you can take several steps:

To get a conventional home loan, you typically need at least a 620 credit score. That said, some lenders may have no minimum requirement for a credit score. A credit score of at least 580 may be required for certain government programs. That said, each lender may have its own requirements to get you a mortgage.

Like any new loan, lenders will check your credit score when you borrow a mortgage. Therefore, your credit score may be impacted when you apply. If you apply for a mortgage with multiple lenders, the good news is that any credit checks typically count as a single credit inquiry on your credit report. Therefore, it can be beneficial to apply to multiple lenders within a short time period to find the best mortgage rate.

Over time, a mortgage may improve your credit score. Why? It’s possible your credit score may improve if you pay off your mortgage faster. Plus, you may use the money you save in interest from paying off your home loan faster to then pay off student loans or credit card debt. One way to improve your credit score is to pay off high-interest debt. Making on-time payments on your mortgage over time also can raise your credit score.

When you get a home loan, you can choose between a fixed and variable interest rate. A fixed interest rate means that the interest rate on your mortgage will never change for the duration of your loan. A variable interest rate means that the interest rate on your mortgage can change over time based on movements in prevailing interest rates.

A fixed interest rate will provide you with more certainty and predictability because you will have the same interest rate every month. Since the interest rate on a variable interest mortgage can change, you may have a higher or lower monthly payment over time. Typically, the starting interest rate on variable rate loans are lower than on fixed rate loans.

Most lenders prefer that you have at least 20% equity in your home. However, each lender will have its own criteria for a mortgage. For example, FHA loans require as low as 3.5% down payment, whereas VA loans may require no down payment.

To apply for a home loan, you will need several documents, including:

Discount points are optional fees that you pay at the closing of your mortgage loan in exchange for a lower interest rate. Effectively, you are prepaying part of your mortgage interest upfront so that you can lower your monthly payment and save money. One discount point costs 1% of your mortgage loan amount and lower your interest rate by approximately 0.25%. For example, let’s assume you borrow $300,000 at a 5% interest rate. You could pay 1% of $500,000, or $5,000, to lower your interest rate from 5% to 4.75%. Before buying points, make sure that your savings over the life of your mortgage loan will outweigh the upfront costs.

Private Mortgage Insurance, or PMI, is insurance that is provided by a private company to protect the lender against losses in case you default on your home loan. If you have a conventional home loan and your home loan amount is more than 80% of your home’s value, then you may be required to get private mortgage insurance. For example, let’s assume that the purchase price of your new home is $300,000. If your down payment is $60,000, or 20% of your purchase price, your home loan would be for $240,000 and you wouldn’t be required to get private mortgage insurance. However, if your down payment was $30,000, or 10% of your purchase price, you home loan would be for $270,000 and you may be required to get private mortgage insurance. The most common way to pay for mortgage insurance is through a monthly premium that is added to your home loan payment. Alternatively, a lender may ask for a one-time, upfront payment for PMI, or a combination of an upfront payment and monthly payments.

When you get a home loan, you will pay closing costs. There are several types of closing costs, including appraisal fees, title insurance, title search, property taxes, transfer taxes, recording fees, settlement fees, among others. The amount of your closing fees will depend on the geographic location of your home and type of mortgage.