Mortgages are complex, and figuring out the best option can be tricky, so knowing your options is essential. Before you begin worrying about whether you prequalify for a mortgage, what type of credit you need, how much you can afford, and looking at your down payment, you’ll want to know the basic ins and outs of mortgages and what they entail.
WHAT ARE THE MORTGAGE LOAN TYPES?
The first thing you should know is the types of mortgage loans. Though you’ll likely qualify for only one or two options, there are many types out there.
- Conventional/Fixed-rate: A conventional home loan, or a fixed-rate mortgage, is the most common type. Most buyers choose a 15-year or 30-year fixed-rate loan, which guarantees that the interest rate does not change over time. A 30-year loan allows for lower monthly payments due to the length of the loan, while a 15-year loan has higher rates but will be paid off sooner. This means you will pay less interest in the long run.
- Adjustable-rate Mortgage (ARM): These loans are far less common and often come with risk because the rate can fluctuate significantly over the loan term. ARM loans can deceive borrowers because they usually start at a lower percentage rate, but the eventual changes follow current market rates and can increase payments more significantly.
- Department of Veterans Affairs (VA) Loan: This type of loan benefits service members and their families. Similar to conventional mortgages, they are often backed by various lenders. For this type of loan, you have to meet a minimum service requirement, but you will not be required to make a down payment or hold private mortgage insurance. Though this may sound ideal, there are some negatives to VA loans. You’ll be required to pay a funding fee to cover the cost of foreclosing (in case of a default). A VA-endorsed appraiser must evaluate the property and deem it worthy of the loan. Additionally, the lack of a down payment can cause you to lose money if the market shifts significantly.
- Federal Housing Administration (FHA) Loans: FHA loans are popular with first-time home buyers since they are designed specifically for them. These government-backed loans often require as little as 3.5% down and are ideal for low to moderate-income borrowers. The downside is that you will be required to hold private mortgage insurance (PMI), which can be pricey and doesn’t go toward the principal balance.
- USDA Loans: These loans, backed by the Department of Agriculture, help low-income applicants in rural areas. You’ll have first to meet specific income requirements, and the property needs to be in an eligible area.
- Jumbo Loans: When a loan amount exceeds the limits set by the Federal Housing Finance Agency (FHFA), a Jumbo loan is necessary. Specific requirements are often put forth, like a year’s worth of payments in a cash reserve. Expect higher fees and more hoops to jump through with this type of loan.
NOW THAT YOU’VE CHOSEN A LOAN TYPE, WHAT HAPPENS NEXT?
Once you’ve figured out what type of loan you’ll be obtaining, you’ll need to go through various other steps before you can seal the deal.
Have you been prequalified? Aside from finding your dream home and an excellent real estate agent, this is one of the first steps you’ll need to take on the path to securing a mortgage. It’s more of a recommendation than a requirement but often shows that you are serious and can help you secure that dream home faster. Many people are surprised that they prequalify even with less-than-stellar credit, but it’s certainly possible. While excellent credit isn’t a requirement, it certainly helps with interest rates, down payments, and potential points on a mortgage. If you’re serious about buying a home quickly, going a step further and getting a pre-approval is even better. Like a prequalification, a pre-approval requires a bank to dig deeper into your financial information and provides a better indication of what you can afford in a home.
THINGS TO CONSIDER
Photo courtesy of Brandon Carney
Now that you’ve been prequalified or pre-approved and found that dream house, you’ll want to consider several factors, starting with down payments. Most loans require some down payment, except the VA loan. The down payment can be as little as 3.5% or as significant as 20%. The down payments will help cover closing costs and various fees required. More substantial amounts not only eliminate the private mortgage insurance requirement but can also increase the equity and reduce your monthly payments.
What is private mortgage insurance (PMI)? Simply put, it is a type of insurance that may be required, depending on several factors. Traditionally, if you have a conventional loan but your down payment is less than the typical 20%, then PMI is required. This type of insurance helps protect the lender if you stop making payments on the loan. Once you’ve accumulated enough equity in the house to become “low-risk,” you can stop paying PMI.
Closing costs vary and are not set in stone but often range from 2-6% of the loan amount. Closing costs cover several different fees, including the appraisal fee, mortgage insurance fees, taxes, annual fees, insurance, title fees, and other loan-related fees. If you’ve got a substantial down payment, your closing costs are typically covered; however, you can negotiate with the sellers to have them pay the closing costs for you.
Lastly, let’s talk about interest rates and, more specifically, how to potentially lower them. The easiest way to ensure a lower interest rate is to have excellent credit, but if that’s not you, there are a few alternative options. Begin by comparing rates with various lenders so you know all the options available to you. If you’re still unsatisfied, you might consider purchasing mortgage points, which are fees a borrower pays to trim down their interest rate. The process is relatively simple; each point will cost 1% of the total loan and reduce your rate by .25%. So if you have a $300,000 loan with a 4% interest rate, one point would cost you an additional $3,000 and bring your rate down to 3.75%. These points are listed on your loan documents and typically paid at closing.
Now that we’ve discussed some truth about mortgages, you can decide whether you’re prepared to take the next step and apply for one. When you are ready, contact Virginia Beach Realtor® Brandon Carney for the expert guidance you can count on. Brandon can help you find the home of your dreams that fits your financial criteria. Get started today!
*Header photo courtesy of Pexels
