Choosing the right types of home loans is one of the most important decisions you’ll make regarding your personal finances. The most common mortgage mistakes is letting a fast-talking broker sell you different types of home loans that end up being much more expensive. Here are the basics you need to know about types of home loans and mortgage loan programs to avoid making the same mistakes costing your neighbors thousands of dollars.
Types of home loans you need to know
There are dozens of home loan types available and lenders are constantly coming up with clever ways to sell them. The types of home loans you choose can make or break the deal you’re getting so you’ll want to fully understand the differences before jumping in.
There are a lot of ridiculous mortgage programs lenders push on unsuspecting homeowners that are loaded with junk fees and discount points. You might encounter teaser rates on so called “pick-a-payment” offers or unwise term-lengths ranging from 40 to 50 years.
The most common types of home loans include the 30-year fixed rate mortgage, although people are very keen on 100% financing as well as rolling closing costs into their balance. If you don’t have the cash for your down payment or closing costs you’ll find 100% mortgage loans are making a comeback.
Choosing the right types of home loans and mortgage programs will not only save you from lender junk fees and unnecessary discount points but decrease your chances of defaulting and facing foreclosure. With that said here’s a rundown of the many different types of home loans and mortgage programs out there.
Conforming vs. non-conforming mortgage loans
The most basic distinction between types of home loans is their eligibility for government backing. If your home loan meets the limits established by Fannie Mae and Freddie Mac it is considered conforming. Non-conforming home loans fall outside the government established limit which for a single-family home is currently $417,000.
If you’re above the conforming mortgage limit your type of home loan is considered a jumbo mortgage. If you live in Hawaii or Alaska your conforming loan limit is higher than the rest of the country and is currently $625,000.
Non-conforming types of home loans come with higher interest rates and fees thanks to greater risk for lenders. If you’re close to the conforming loan limit and are considering refinancing, a cash-in refinance could get you a better rate and help avoid paying higher fees.
Government mortgage programs vs. conventional home loans
Home loans are also categorized as government programs or conventional. Government programs include FHA home loans, VA loans, and USDA rural home loans. These programs are insured by the government against default limiting risk for mortgage lenders.
Conventional mortgage loans are the types of home loans you see marketed by banks and lenders. These mortgages typically have higher interest rates and fees than government backed programs. If you’re a veteran and haven’t taken advantage of your VA home loan eligibility you should consider this type of home loan as it is widely considered the best available.
Types of mortgage loan programs
I mentioned the most common mortgage program is the 30-year fixed rate home loan. If you’re in the market for refinancing 15-year home loans are a popular choice that can save you a lot of money.
Are you fuzzy on how the term length you choose affects your payments? It is the duration of your home loan that determines the amortization schedule. Amortization is the process of paying down your mortgage over time.
Home loans are front-loaded with interest so in the early years the majority of your payment is applied to financing. Over time this reverses and more of your payment goes to building equity in your home.
The longer your term-length the more expensive the financing costs will be, explaining why 15 year home loans are a popular choice for mortgage refinancing.
Here’s an example to illustrate the differences between a 15 and 30-year mortgage programs:
Suppose your mortgage is a $250,000 30-year fixed home loan at 5 percent.
- Your Monthly Payment is $1,342
- Your Total Interest is $233,129
- Your Total Payments: $483,139
These figures don’t include taxes and insurance and give you a baseline for this type of home loan. This seems like a lot to pay for $250,00 worth of financing but keep in mind the duration of the home loan is 30 years.
Here’s the same home loan with a 15-year mortgage program, $250,000 at 5 percent interest:
- Your Monthly Payment is $1,976
- Your Total Interest is $105,857
- Your Total Payments: $355,857
As you can see the 15-year mortgage saves you $127,282 as long as you can afford to pay an extra $634 a month. The total interest paid between these two different types of home loans is significant. The 15-year mortgage is building equity at a significantly higher rate and paying less to the lender in financing.
How to shop for the best types of home loans
The first thing you need to do is pick a program. Are you eligible for government programs? The VA is the best deal out there hands down if you served. FHA home loans are great if you have credit challenges but come with higher payments thanks to mandatory mortgage insurance. If you’re not taking the government program path then a conforming home loan assuming you’re below the limit is your best option.
The most important lesson you’ll learn here today is that once you’ve picked a mortgage program that is best suited to your needs don’t let anyone change it.
If you need a 30-year fixed because of lower payments and stability don’t let a fast-talking banker quote you interest rates on a 5/1 ARM. Pick your types of home loans and program and stick with it.
Only compare interest rates and fees from identical mortgage programs.
That means compare 30-year fixed rate offers from one bank or lender to 30-year fixed rate offers from another. The most common mortgage mistake your neighbors make is comparing offers from different programs.
Once you’ve nailed down the types of home loans and programs you’re shopping from take a hard look at the fees found in section 800 of your Good Faith Estimate. Question everything you find there and don’t be afraid to haggle over paying less, especially when refinancing.
The less you pay at closing the more benefit you’ll get from today’s low mortgage rates.
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