Different Types of Mortgage Loans – A Comparative Guide
09.15.2020 | Category: Homebuying
The homebuying experience is unique to every individual buyer, so why should your loan be any different? When it comes to finding the perfect loan to suit your every need, we’ve got you covered. We understand that researching loan programs can be overwhelming and difficult to understand, so let’s make it simple. In this article, we’ll go over the different types of mortgage loans, interest rates, mortgage terms, and which loan can bring the most benefits to you and your needs!
Conventional loans remain the most common type of loan across most lenders and, broken down, is a loan that is not government backed. The biggest benefit to a conventional loan is the wider variety of loan programs and flexibility in terms and rates. Some examples of conventional loans include:
A fixed-rate mortgage is a great option for a borrower that wants a consistent rate across the entire duration of the loan. Fixed-rate mortgages allow you to lock in your interest rate, protecting you from rate changes, and ensuring your principal and interest rate payment remain the same throughout*. As the market changes you don’t want to worry about watching fluctuating rates, which can help with overall budgeting
*This does not take into account your taxes, insurance, and additional fees which may change over time
An adjustable-rate mortgage, often referred to as ARM, is a home loan in which the interest rate changes, or adjusts, based on the trajectory of the housing market over the course of the loan. The structure of this loan is typically useful for when rates are higher and projected to lower in the future. The most common type of adjustable-rate mortgages utilized by borrowers is the 7/1 ARM, which allows the borrower to lock their interest rate for the first seven years of their mortgage term; then, their rate will adjust on an annual basis (every 1 year) based on current market rates. While ARM’s offer less stability than a fixed-rate mortgage, an ARM usually gives borrowers the opportunity to qualify for a lower interest rate at the beginning of their loan. If you’re only planning to be in your home for a short period of time, or if you’re looking to qualify for a higher loan amount, an ARM may be worth looking into.
Conforming Home Loan
The conforming home loan is a loan that meets the underwriting guidelines set forth by the government-controlled corporations, Fannie Mae and Freddie Mac. Fannie Mae and Freddie Mac buy and sell mortgage back securities and set annual loan limits for conforming loans. This means that any home purchased with a loan amount that is less than the loan limit set by Fannie and Freddie is considered to be a conforming loan. As of 2023, the current loan limit sits at $726,200 on a single-family home; however, in some high-cost areas of the country, this can vary slightly. These loans are great for people who do not require a large loan amount and provide lower interest rates throughout the loan term compared to their jumbo counterparts.
Jumbo Home Loan
A jumbo loan is a loan that exceeds the conforming loan limit set by Fannie Mae and Freddie Mac. Lenders may require higher credit scores, larger down payments, and a higher debt-to-income ratio to qualify for a jumbo loan.
Government loans are loan programs that are backed or insured by the federal government. While there are fewer programs under the umbrella of government loans, these programs typically have lower down payment and credit score requirements and are designed to bring homeownership within reach. The three types of government-insured loans are:
FHA loans are loans backed by the United States Federal Housing administration (FHA) and are one of the most common loan programs. With easier qualifications, such as a 3.5% down payment option, FHA loans are a great choice of loan for first-time home buyers struggling to meet the qualifications of other conventional loans or who don’t want to make a large down-payment up front.
Established in 1944, the VA loan was established to aid service members, veterans, and eligible surviving spouses in the home buying process. This program allows for veterans and service members to purchase or refinance a house with competitive rates and no down payment necessary. VA programs also offer reduced closing costs, no private mortgage insurance (PMI) requirement, or penalties for prepayments. This is an incredible benefit for service members, veterans, and eligible spouses to consider when loan shopping.
The United States of Agriculture (USDA) designed a program to help Americans purchase homes in rural areas easier. The USDA program was created to aid low- and moderate-income borrowers with income eligibility requirements to achieve their goals of financing their homes out in rural approved areas. Over the years, the USDA’s definition of rural has come to incorporate many suburbs of major cities to make the program more beneficial to a wider range of borrowers. A USDA loan could be a great fit for a borrower planning on moving to a rural approved area and provides lower income qualifications.
Understanding Interest Rates
One of the biggest stressors for borrowers when it comes time to purchase or refinance, is interest rates. Your interest rates are determined primarily by the current state of both the economy and housing market at the time of your loan as well as several personal factors, including:
- Credit score
- Home location
- Home price
- Loan amount
- Down payment
- Loan term
- Interest rate type
- Mortgage loan type
It's important to note that these factors can interact with each other, and the impact of each factor may vary depending on the lender's policies and current economic conditions. Mutual of Omaha Mortgage loan officer will be able to tell you more about current interest rates, and work create a custom quote depending on your specific financial situation.
What is a Rate Lock?
A rate lock is a financial arrangement that allows a borrower to secure a specific interest rate for their mortgage for a predetermined period. Rate locks are commonly used in the home buying or refinancing process to protect borrowers from potential interest rate increases while their loan application is being processed.
A Loan Term Breakdown
Loan terms can vary from one lender to another, and at Mutual of Omaha Mortgage, we're pleased to offer a range of mortgage programs spanning 10, 15, 20, 25, and 30 years. Among these options, the most commonly chosen are what we refer to as "long-term loans," such as the 30-year loan, and "short-term loans," exemplified by the 15-year loan.
Opting for a shorter-term loan often makes it possible to qualify for a lower interest rate. This can result in substantial savings over the course of 15 years. However, it's worth noting that shorter loan terms typically entail higher monthly mortgage payments since you're repaying the loan balance within a condensed timeframe.
With each loan term offering unique advantages, it's crucial to consider your monthly budget when determining your ideal loan term. This will help you make an informed decision about which loan option best aligns with your financial goals.
Understanding how Shorter Loan Terms Can Save You Money on Your Interest Payments
Compared to a 30-year mortgage, a 15- or 10-year mortgage term would equate to higher monthly payments. But you’ll be saving thousands over the life of your loan term. That savings comes in the form of interest payments.
To help illustrate these savings, let’s take a look at a sample scenario comparing a 30-year mortgage vs. a 15-year mortgage. Let’s say you purchased a home for $300,000, with 20% down, a 30-year fixed-rate mortgage with a 4.0% interest rate, you would pay more than $172,000 in interest over the life of your loan. If you took that same $300,000 home, with 20% down, and a 4% interest rate, but changed over to a 15-year term, you would pay roughly $79,000 in interest over the 15-year repayment period. That’s a saving of over $93,000 in interest payments.
While a shorter-term mortgage and higher monthly mortgage payments isn’t an option for everyone, it may be worth reviewing your options with your loan officer, so you have the whole picture of your financing options.
So, What’s the Next Step?
While all this might still be a lot to process, we would love to help you find your perfect mortgage solution for your every need! Our team is dedicated to working closely with you to understand your current financial situation and your mortgage goals to find a loan type that meets your needs. We will offer you support and help every step of the way, ensuring you feel informed and confident enough to make a decision about which mortgage will benefit you best.