Types of Home Mortgage Loans: Conquer Your Mortgage Decisions
A lot of us personal finance geeks read everything we can get our hands on regarding money and finance, but I guarantee that for some of us, certain things we read stick out and really have an impact–sometimes for life.
Ever since the weekend my best friend lent me Automatic Millionaire by David Bach (this was back in 2007), I was hooked. I began reading it while visiting her in Kansas City, read it in my spare time that weekend (when we weren’t eating delicious BBQ) and by Sunday afternoon, had almost devoured the entire book.
Talk about an epiphany! I was thoroughly obsessed with each and every point he made and even encouraged my then-boyfriend (now husband) to open up a Roth IRA that week.
I’ve been a devoted Bach follower since then, and have religiously followed his social media posts, get his three-bullet Sunday emails every week, and read them with gusto. I watch his clips online, have read more than five of his books… Okay, you get the picture. It’s odd for me, though. I have no other singular devotion to any other celebrity–and it happens to be a financial dude.
I know, kind of weird, right?
However, I do think his advice is fantastic, and I’ve absorbed just about everything he’s said, including what he suggests regarding mortgages.
Mortgages can be one of the most exciting (and scary) purchases you’ll ever make, but it truly is your ticket to the big-time. If you do what you’re supposed to with a home mortgage, it’s going to benefit you, hands-down.
Now, there are some distinct advantages to having one type of mortgage over the other. I’ll go over some home mortgage loans (so you understand what the heck a jumbo mortgage actually is!) Let’s get started:
Most people understand this type of home mortgage. Fixed-rate mortgages have the same interest rate for the entire repayment term, whether that’s 15 years, 20, or 30. The rate will never, ever change, which can really give you peace of mind.
This is a good type of mortgage to have for people who plan to stay in their home and keep the same mortgage for years. (Now, whether to choose the 15, 20 or 30-year mortgage–that’s another, wholly different conversation.)
Adjustable-rate mortgages (ARMs)
These are a little trickier, in that the rate is not fixed. You do know when the rate will adjust, however. For example, with a 3/1 ARM, the “3” represents the fixed-rate period. The “1” represents the frequency of adjustment after the fixed-rate period. Interest rates are usually lower during the very first fixed period, but make no mistake: it will eventually adjust.
If you’re only planning to live in a home for say, five years or so, this could be a good type of mortgage for you, as long as you can live with the unpredictable nature of how the rate will adjust. Not exactly a welcome surprise at times, I’m sure–and we’re all aware of what happened during the recession and ARMs.
Now, there’s a section within a section here. Everyone has to choose whether he/she wants a fixed-rate home mortgage or an ARM, but you also have to decide what type of loan you’d like: a government-insured loan or a conventional loan. (I promise, it’s really not that confusing.)
Government-insured vs. conventional loans
The distinguishing factors here are simple. With a conventional home mortgage loan, the government is in no way involved in helping you secure a loan. With government-insured loans, however, the government is very much involved, and those types of loans are described below.
Is an FHA loan a possibility for you? An FHA loan is a government-backed home loan insured by the Federal Housing Administration (FHA). You, the borrower, pay a mortgage insurance premium, which protects the lender if you happen to default on the loan. Note: the lender is NOT the FHA–the FHA only insures the loan. Other perks:
- Your down payment can be as low as 3.5 percent.
- Some closing costs may be covered by home sellers, builders or lenders–so you, the borrower, wouldn’t necessarily have to shoulder the complete bill. In fact, sellers can contribute up to six percent of the purchase price toward a buyer’s closing costs.
- You may qualify for an FHA loan with a credit score of 580.
Similar to the FHA program, these types of loans are guaranteed by the federal government. The VA reimburses the lender for any losses in the event of borrower default. And–get this. Borrowers can receive 100 percent financing for their home.
These home mortgage loans caught my eye because I do, indeed, live in rural America. This type of loan is headed up by the United States Department of Agriculture, and it’s for rural borrowers who meet certain income limits. Income must be no higher than 115 percent of the adjusted area median income, which varies by county.
Jumbo vs. conforming loans
What about jumbo loans? Conforming loans? Just another tentacle on the octopus named “Mortgages.” It’s complex, right? Well, this simply is a size matter, hence, the name “jumbo.” If your loan is considered a “normal” size–as in, it meets underwriting standards by Fannie Mae or Freddie Mac, you’ve got a conforming loan. If it exceeds these underwriting standards–perhaps you’re buying a very expensive house–then you’re likely to need excellent credit and a larger down payment. Your interest rate could also be “jumbo” as well.
David Bach and 30-year mortgages
Okay, let’s go back to my original story, about my weekend in Kansas City, and why I brought David Bach to the forefront in the first place. Good ol’ Dave really likes 30-year mortgages because they’re simple and they lock in a permanent, low-interest rate. However, he does acknowledge that you’re still wasting a lot of money on interest over the course of 30 years. (In fact, if you can swing it, go for a 15-year mortgage. I really like those.)
I happened to see an article that was written about Bach at www.cnbc.com. He said in the article that if you buy a home for $250,000, get a 30-year mortgage at five percent interest and if you ride out the full terms of your mortgage, you will wind up have spent about $480,000. Man, that’s a large difference in the purchase price and the price you end up paying overall!
Anyway, he really recommends a biweekly payment plan for that 30-year mortgage–and also recommends making it automatic. You wind up making extra payments each year and therefore shorten the payoff and life of your loan. He details this information all over his site, www.davidbach.com.
Your decision to buy a home, plus your decision to select some type of mortgage, whether it’s a 15- or 30-year loan, an FHA or conventional loan — no matter what you do end up choosing, ultimately, the best thing to do is just to go for it and buy that home, already!
No matter what you choose, though, just about every financial expert out there wholeheartedly recommends taking action toward paying your home off early, and a biweekly payment plan could be your ticket.