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Types of Mortgages:
- ARMs, or Adjustable Rate Mortgage: This type of mortgage comes in a variety of permutations. Some adjust annually, and others adjust every three to five years.
- Fixed Rate Mortgages: This type have an interest rate that is locked in for the length of the mortgage and never changes.
- Hybrid Loans: These loans carry a fixed rate for several years and then adjust.
- Two-Step Balloon Loans: This type of loan is for consumers who know they are going to be relocated in a specific period of time. The mortgages carry a low interest rate for three, five, seven or ten years, then the full balance is due.
- Interest Only Loans: Before the Great Depression this type of loan was the only available option. It has made a come back about three years ago and is available in many versions.
Down Payment Options:
Home buyers can choose from loans with 0% down, gift programs that provide a down payment and all kinds of variations on the traditional 20% down. Homebuyers can pick from 15, 20 or 30 year mortgages. Some lenders even offer 40 year mortgages, although it is rarely used. Fixed rate, 40 year mortgages are being tested elsewhere in the country by a partnership between 16 credit unions and Fannie Mae, which will decide next year whether to make these loans available on a wide scale.
There are also federal and state programs for first time homebuyers, veterans and low income buyers. For anyone who does not qualify because of poor credit, there is also the sub prime or nonprime mortgage with a higher interest rate, which can be refinanced later it a lower rate after buyer has proven him or herself credit worthy.
The Advantages and Disadvantages of Some Different Types of Mortgages:
- 15 Year Fixed: Advantages: Shorter term, home is owned in half the normal time of a conventional loan, total interest can be lower than a 30 year fixed loan. Disadvantages: Larger monthly payment. Qualifying is tougher because of higher income requirement.
- Adjustable-Rate Mortgages: Advantages: Initial lower payments, rate usually 2% to 3% lower than conventional rate. Makes buying more affordable, payment drops if interest rate drops. Disadvantages: Payments go up if rates go up. This requires budget discipline to anticipate interest rate movements.
- Hybrid Loan: Advantages: All the advantages of an adjustable rate. Lower rate can be fixed for a varying number of years, one, three, five or seven. Usually the shorter the fixed time, the lower the rate. Eventually converts to a fixed rate. If housing prices rise you can sell and trade up before the conversion kicks in. Disadvantages: If you do not convert, it is just a regular ARM. You might want to avoid this if you plan to own the home for a long time and anticipate interest rates rising.
- Interest Only Loan: Advantages: You can qualify for a bigger loan and more houses. This loan is typically used by home buyers who receive the bulk of their income in bonuses. Good if you expect quick increase in income to pay down principal. Good if you plan to move before principal is due. Disadvantages: Buyers need budgeting skills. Need cash for lump sum principal payments and you must refinance at the end of interest payment period. The home does not build equity unless the property appreciates and can conceivably owe more than the house is worth if property values go down.
- Low Down, No Document Loan: Advantages: Helps if you have trouble verifying income. Lender does not require proof of income and assets. No debt to income ratio used. Disadvantages: Higher interest rate because of higher risk, bigger down payment and higher credit standards.
- Two-Step Balloon Loan: Advantages: Good choice if you do not expect to own the home past the date when the balloon payment becomes due. Payments are usually lower than conventional fixed loans. Disadvantages: The end of a few years you must sell or refinance because all remaining principal becomes due. Rates may be higher and additional settlement costs may have to be paid if house does not appreciate.
- Piggyback or Split Loans: Advantages: You can avoid paying private mortgage insurance when your down payment or equity in your home is more than 20% of the value. Mortgage payment generally is lower. This may be used with most fixed and adjustable rate loans. Disadvantages: Higher interest rate on second mortgage, slightly higher closing cost since two loans have to be closed.
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