Today's homebuyer has more
financing options than have ever been available before. From
traditional mortgages to adjustable-rate and hybrid loans, there
are financing packages designed to meet the needs of virtually
anyone.
While the different choices may
seem overwhelming at first, the overall goal is really quite
simple: you want to find a loan that fits both your current
financial situation and your future plans. Though this article
discusses some of the more common loan types, you should spend
time talking with different lenders before deciding on the right
loan for your situation.
General categories of loans
Most loans fall into three major categories: fixed-rate,
adjustable-rate, and hybrid loans that combine features of both.
- Fixed-rate mortgages
As the name implies, a fixed-rate mortgage carries the same
interest rate for the life of the loan. Traditionally,
fixed-rate mortgages have been the most popular choice among
homeowners, because the fixed monthly payment is easy to
plan and budget for, and can help protect against inflation.
Fixed-rate mortgages are most common in 30-year and 15-year
terms, but recently more lenders have begun offering 20-year
and 40-year loans.
- Adjustable-rate mortgages
(ARM)
Adjustable-rate mortgages differ from fixed-rate mortgages
in that the interest rate and monthly payment can change
over the life of the loan. This is because the interest rate
for an ARM is tied to an index (such as Treasury Securities)
that may rise or fall over time. In order to protect against
dramatic increases in the rate, ARM loans usually have caps
that limit the rate from rising above a certain amount
between adjustments (i.e. no more than 2 percent a year), as
well as a ceiling on how much the rate can go up during the
life of the loan (i.e. no more than 6 percent). With these
protections and low introductory rates, ARM loans have
become the most widely accepted alternative to fixed-rate
mortgages.
- Hybrid loans
Hybrid loans combine features of both fixed-rate and
adjustable-rate mortgages. Typically, a hybrid loan may
start with a fixed-rate for a certain length of time, and
then later convert to an adjustable-rate mortgage. However,
be sure to check with your lender and find out how much the
rate may increase after the conversion, as some hybrid loans
do not have interest rate caps for the first adjustment
period.
Other hybrid loans may start
with a fixed interest rate for several years, and then later
change to another (usually higher) fixed interest rate for the
remainder of the loan term. Lenders frequently charge a lower
introductory interest rate for hybrid loans vs. a traditional
fixed-rate mortgage, which makes hybrid loans attractive to
homeowners who desire the stability of a fixed-rate, but only
plan to stay in their properties for a short time.
Balloon payments
A balloon payment refers to a loan that has a large, final
payment due at the end of the loan. For example, there are
currently fixed-rate loans which allow homeowners to make
payments based on a 30-year loan, even thought the entire
balance of the loan may be due (the balloon payment) after 7
years. As with some hybrid loans, balloon loans may be
attractive to homeowners who do not plan to stay in their house
more than a short period of time.
Time as a factor in your
loan choice
As has been discussed, the length of time you plan to own a
property may have a strong influence on the type of loan you
choose. For example, if you plan to stay in a home for 10 years
or longer, a traditional fixed-rate mortgage may be your best
bet. But if you plan on owning a home for a very short period (5
years or less), then the low introductory rate of an
adjustable-rate mortgage may make the most financial sense. In
general, ARMs have the lowest introductory interest rates,
followed by hybrid loans, and then traditional fixed-rate
mortgages.
FHA and VA loans
U.S. government loan programs such as those of the Federal
Housing Authority (FHA) and Department of Veterans Affairs (VA)
are designed to promote home ownership for people who might not
otherwise be able to qualify for a conventional loan. Both FHA
and VA loans have lower qualifying ratios than conventional
loans, and often require smaller or no down payments.
Bear in mind, however, that FHA
and VA loans are not issued by the government; rather, the loans
are made by private lenders but insured by the U.S. government
in case the borrower defaults. Remember too, that while any U.S.
citizen may apply for a FHA loan, VA loans are only available to
veterans or their spouses and certain government employees.
Conventional loans
A conventional loan is simply a loan offered by a traditional
private lender. They may be fixed-rate, adjustable, hybrid or
other types. While conventional loans may be harder to qualify
for than government-backed loans, they often require less
paperwork and typically do not have a maximum allowable amount.
