Home Financing Options with F&M Bank – Part 3
In this month’s installment, let’s briefly highlight some of the characteristics of the most common interest rate and mortgage types we touched on last month. They are:
- Fixed Rate Mortgages
- Adjustable Rate Mortgages (ARM)
- Conventional Mortgages
- Jumbo Mortgages
- Government Insured Mortgages (FHA, VA, USDA)
Interest Rate types in brief:
Fixed-Rate Mortgage Loans
The most common type of home loan is a fixed-rate loan that incorporates a constant monthly payment made up of the loan’s principal and interest. Sometimes the payment may also include homeowner’s insurance & property taxes (also known as escrow) which could make the payment change as those costs rise or fall; however, the principal & interest portion would be the same for the entire life of the loan. Fixed rate mortgages can be offered with a variety of medium to long-term repayment options and are very common as the interest rate, once set, is “fixed” or locked for this entire life of the loan.
These types of loans are best for people who intend to stay in their homes for an extended period of time primarily to recoup closing costs that are paid at the start of the loan. Closing costs are one-time charges like a home appraisal, inspection costs, title fees and points (pre-paid interest to the lender.)
Adjustable Rate Mortgages (ARM)
As opposed to a fixed-rate mortgage, an adjustable rate mortgage (ARM or variable rate mortgage), has an interest rate that can fluctuate or change each period. These types of mortgages typically start off with an initial interest rate for a stated period of time. Some lenders may offer a promotional rate that is lower than market interest rates at the time of application but at the end of the stated period the interest rate may adjust up or down at that time depending on current market conditions and your loan agreement.
At the end of the initial fixed-rate period, ARM interest rates increase or decrease based on an index (i.e. various indexes are used such as US Treasury bills indexes) plus a set margin which doesn’t change. During periods where the index rises or falls, the monthly payments can increase or decrease, though ARMs typically come with rate caps and floors that limit how high or low the rate can be or how drastically the payments can change in any stated period.
For example, periodic rate caps limit how much the interest rate can change from one period to the next, while lifetime rate caps and floors will limit the amount the interest rate can rise or fall over the life of the loan. These loans add additional interest rate risk to the borrower given that rates may change and are likely best suited for people who can comfortably absorb any increases in their monthly payments and/or who do not intend to stay in the home for a long period of time.
Mortgage Loan types in brief:
In simple terms, a conventional mortgage is a loan that is not part of a specific government program; however, many times they must still conform to the lending requirements of Fannie Mae and Freddie Mac, the two largest buyers of mortgage loans in the US. Conventional mortgages may have fixed rates or adjustable rates as described previously. Many conventional mortgages are issued by private lenders who then sell the loan to one of these governmental entities. Some lenders may choose to sell the loan and keep the servicing to better serve their customers as the borrower will continue dealing with the lender who originated the loan instead of the company to which it was sold. Since these loans are not guaranteed by the government, the requirements to obtain a conventional loan may be different lender to lender. Some lenders may require higher credit scores, larger down payments and private mortgage insurance (PMI) to protect them from a borrower’s default while other lenders may have more flexibility to work with a borrower as they do not need to conform to the governmental entities requirements.
Jumbo Mortgages are a special type of conventional mortgage that exceeds the maximum mortgage amount dollar limits set by the FHFA (Federal Housing Finance Agency – Fannie Mae and Freddie Mac). Frequently called “non-conforming conventional mortgages,” these loans are considered riskier for lenders because they will not be guaranteed by these governmental entities, which mean the lender has no protection for losses if a borrower defaults. Jumbo loans are typically available with either a fixed interest rate or an adjustable rate. They also may require more of a down payment, higher credit scores and borrowers may need additional cash reserves to help protect the lender from potential default.
Government Insured Mortgages (FHA, VA, USDA)
Though still obtained through a bank or mortgage lender, Government Insured Mortgages such as those insured by the FHA (Federal Housing Administration), VA (Department of Veteran’s Affairs) or USDA (US Department of Agriculture), also known as rural development loans, are loans that are “backed” by the government to guarantee repayment to the bank should a borrower default on their mortgage.
FHA loans are popular with first time home buyers with low-to-moderate incomes because they typically require lower minimum down payments and can be obtained with a lower credit score than many conventional loans may require. USDA loans are similar and also offer low down payment requirements, however the property being purchased must be in an eligible location as indicated by USDA guidelines. VA loan guarantees can only be obtained by eligible veterans, current service members, and surviving spouses as its name implies.
If you are unsure which mortgage program for which you qualify, you may ask your lender for estimates on each type for comparison.
Contact us to discuss these mortgage types in more detail so you can obtain the home of your dreams!
published on 10/6/2019