Types of Loans
There are different types of loans designed for varying income levels and specific circumstances. Your lender can explain the differences and advise you as to what type of loan would best suit your needs. Remember that not all banks or lenders offer the same types of loans, so it is in your best interest to shop around and ask questions.
Below are some of the more common loans.
A conventional loan is the most common type of loan and usually has the best rates. You’ll typically need at least 5% for a down payment and good credit. It is sometimes referred to a “conforming loan” because it has to conform to Fannie Mae or Freddie Mac guidelines.
Fixed Rate Loan
A fixed rate loan, or fixed rate mortgage, is a loan in which the interest rate is fixed for the entire length of the loan, typically 15 or 30 years. The rise and fall of interest rates won’t change the terms of your loan so you will always know what to expect.
An adjustable-rate mortgage, or ARM loan, offers interest rates typically lower than you’d get with a fixed-rate loan, but only for a period of time—such as five or 10 years. After that, your interest rates, and your payments, will adjust, roughly corresponding to current interest rates. This will usually happen about once a year, at which time if the interest rates shoots up, so do your monthly payments; if they plummet, you will pay less.
For buyers with lower credit scores, an ARM can make home ownership possible, as typically people with bad credit can’t get good rates on fixed-rate loans. If the rate is too high, it will drive the monthly payment beyond reach. Lower rates that an ARM offers can make the monthly payment manageable.
A Federal Housing Administration (FHA) Loan allows the buyer to put down as little as 3.5% and is more forgiving of low credit scores. For the buyers with little for a down payment and not great credit scores these loans can make home ownership possible. There are, however, some caveats with FHA loans. Most loans are limited to $417,000 and certain homes might not meet the FHA guidelines. It is important to talk to your lender about the guidelines and what inspections are required.
For veterans who have served in the United States military for 90 days consecutively during wartime, 180 during peacetime, or six a Veterans Affairs (VA) loan can be an excellent alternative to a traditional mortgage. If you qualify, you can get a loan with no money down and no mortgage insurance requirements. That said, the VA has strict requirements on the type of home you can purchase: It must be your primary residence, and it must meet “minimum property requirements” (that is, no fixer-uppers allowed). Again, it is important to talk to your lender about the guidelines and what inspections are required.
USDA Rural Development loans are designed for families in rural areas. The government finances 100% of the home price requiring no down payment and discounted interest rates. For families in rural areas who are struggling financially, these loans are designed to make home ownership a reality. Your debt load, however, cannot exceed your income by more than 41%.
203k Rehab Loan
The 203k loan is a specialized renovation or construction loan, backed by the Federal Housing Administration. It is available to both buyers and refinancing households, and combines the traditional "home improvement" loan with a standard FHA mortgage, allowing homeowners to borrow their renovation costs.
In addition to the negotiated and agreed upon price of the home, both the seller and the buyer will have to pay closing costs. How much these costs are will depend upon a number of factors, which are discuss in a later section. In some cases the closing costs can be rolled into the mortgage to reduce the out of pocket amount the buyer has to pay. For example, if the negotiated price of the home is $150,000 and the closing costs are $10,000, the contract can be written to reflect a sales price of $160,000. The buyer's loan would be based on $160,000, but the sellers would refund $10,000 (not in cash), hence the name 'seller assist'. The seller gets their $150,000 and the buyer gets to purchase a home with less cash on hand. There are some draw backs to this option, so as always it is important to discuss it with your lender.
Also known as a gap loan or “repeat financing,” a bridge loan is an excellent option if you’re purchasing a home before selling your previous residence. Lenders will wrap your current and new mortgage into one payment; once your home is sold, you pay off that mortgage and refinance. Homeowners with excellent credit and a low debt-to-income ratio, and who don’t need to finance more than 80% of the two homes’ combined value can benefit from this loan option.
Also known as PMI, Mortgage Insurance is not a loan, but may be required if you have less than a 20% down payment. It is insurance that protects the lender in the event you are unable to make your payments and can accompany any type of loan. Talk to your lender about this and how much it will cost.