Guide to the Different Types of Mortgages
Owning a home is one of the many dreams that Americans aspire to reach. However, choosing the right mortgage isn’t always easy, especially when you have never owned a home before. Sometimes you can have your pick of any type of mortgage. Fixed rate loans have many benefits, but ARM loans also come with advantages such as a lower rate in the beginning. Your choices can also vary, depending on your credit and income. Some lenders will only offer buyers ARM loans until they have proven themselves and improved their credit rating.
Fixed Rate Mortgages
Fixed rate mortgages are often the preferred type of mortgage for someone who plans on being in the same house for a long period of time. This loan payment stays the same throughout the life of the loan because the interest rate is fixed for the life of the loan. However, tax payments can still go up, depending on the value of the property. Fixed rates offer more stability because there are no surprises for home owners. Homeowners can feel secure knowing that their payment will remain the same, unless they refinance or borrow money against their mortgage.
Qualifications for a fixed rate vary, depending on several factors such as credit, type of home, income and down payment. It is much easier to get a fixed rate mortgage on a single family home because lending regulations are not the same for mobile homes and other types of dwellings. Fixed rate mortgages come in many different packages. A fixed FHA mortgage is a federally guaranteed mortgage that works well for first time home borrowers. Some programs provide down payment assistance, depending on the situation and credit history of the buyer or buyers. FHA loans are a good alternative for people who need a fixed rate, but don’t qualify for a fixed loan under conventional mortgage standards. People can choose between a 15 or 30 year fixed, but some lenders also have 45 year fixed loans.
One Year Adjustable Rate Mortgages
Not everyone qualifies for a fixed rate mortgage, but an adjustable rate loan can certainly fill the same need while the borrower continues to improve his or her credit rating. Some people may want to stick with an adjustable rate mortgage, if the market remains stable. The initial interest rate for any type of ARM loan is generally much lower than the set rate of a 30-year fixed loan. However, adjustable rate mortgages adjust based on the market, after the fixed rate period has ended.
Timing for adjustments depends on the type of ARM loan. A one year adjustable rate mortgage has an initial fixed rate period for one year. This means that the rate won’t adjust for at least one year. After one year has passed, the interest rate can go up or down each year, depending on the market. A person with an adjustable rate may experience small payment decreases if their rate continues to go down also. It’s easier for credit challenged people to qualify for a one year adjustable rate mortgage. One year adjustable FHA loans are also available.
10/1 Adjustable Rate Mortgages
A 10/1 adjustable rate mortgage has a fixed rate for the first ten years of the loan. The benefits include a low fixed rate for the first ten years of the loan. After ten years, the interest rate changes annually, based on the interest rate index. This loan works very well for a family who plans on refinancing or moving within ten years. The initial rate on a 10/1 ARM loan is much lower than the rate on a 30-year fixed loan.
A 2-step mortgage is another good option for homeowners who want to benefit from a lower interest rate during the beginning of the loan. This type of mortgage allows borrowers to receive a below-market interest rate such as 1% for a set number of years. The amount of time the rate remains low varies, depending on the specific type of 2-step loan. Many 2-step loans offer a lower rate for seven to ten years. In seven to ten years the loan adjusts upward for the remainder of the loan. These loans may have a cap on how high the loan can go up. Usually the rate can’t go up more than 5 percent. This type of loan works best when interest rates are high because the borrower can benefit from an initial first rate that is much lower than what the market allows. When rates are high, homeowners are more reluctant to lock in a high rate for the life of their loan.
5/5 and 5/1 Adjustable Rate Mortgages
A 5/5 adjustable rate mortgage has a fixed rate for the first five years and then it adjusts every five years. A 5/1 adjustable rate loan adjusts annually after the five year fixed rate period has ended. Homeowners can benefit from an initial lower rate. Some people may only qualify for this type of adjustable rate loan, depending on what the lender requires. Each lender has different guidelines and some lenders require a higher credit score in order to get a longer fixed rate period.
A 5/25 mortgage remains at a fixed rate for the first five years, but the loan changes drastically after the fixed period ends. This loan requires the borrower to refinance or pay the remaining amount of the loan off after the five years has ended. This type of loan is quite different than most standard ARM loans. Loans come in many different packages to meet the needs of different borrowers. Always read the fine print and know what you are getting into. Payment amounts and interest guidelines are always found in the loan documents.
3/3 and 3/1 Adjustable Rate Mortgages
A 3/3 and a 3/1 are two other types of adjustable rate mortgages. A 3/3 ARM has a fixed rate period of three years. On the fourth year the interest rate adjusts and then it continues to adjust every three years after that. A 3/1 ARM is similar to a 3/3 ARM because the rates stays fixed for the first three years also, but then then the interest rate adjusts every year, instead of every three years.
Many homeowners can also choose a balloon mortgage. Balloon mortgages are similar to ARMS because they have a fixed term rate of 3, 5 or 7 years. However, a borrower is required to pay a large balloon payment at the end of the fixed rate period. People can also choose to refinance, if they don’t have the full balloon payment.
Additional Information & Links:
Federal Housing Finance Agency – Information about various types of FHA loans and qualifications.
Freedie Mac Mortgages – A website displaying prior and current 30-year fixed interest rates since 1971. View current and past interest rates to get an idea of how the market fluctuates.
The Federal Reserve Board –Consumer handbook on adjustable rate mortgages. This PDF explains details about various types of adjustable rates and what to expect. The book helps homeowners plan for upcoming changes and make decisions about refinancing, if necessary.
My Money – A government guide to finances that includes information about mortgages, budgets and making good financial decisions.
Bank of America – Information about the benefits of adjustable rate mortgages.
Two-Step Mortgage Home and Equity – This is an informative PDF guide about 2-step mortgages and equity. The guide goes in-depth about the pros and cons of 2-step mortgages.
CNN Money –An article about fixed rate mortgages hitting record lows. This article gives details about the history of mortgages and the current economy also.
Calculating Mortgage Loans –This is a PDF publication about calculating mortgage loans. The document goes in-depth about annuity factor, interest rates and mortgage payments.
Realtor Magazine –This is an article about the most common types of fixed rate mortgages and ARM loans. The article also talks about how home affordability has increased as the market changes.
Low Rates Ain’t Gonna Last – Article from the University of Alabama about how low rates are not going to last.
Will Refinancing Your Mortgage Save you Money –This is an informative article about whether you should or should not refinance your mortgage.
Mortgages for Home Buyers and Homeowners – This site includes several resources such as a mortgage calculator and information about shopping for a loan.
State of New Jersey Housing and Finance Agency – This is a government site that talks about different loans and the benefits of homeownership, renting and more. You can also find information about foreclosures and how to get a below-market rate if you are a policeman or firefighter.
Finding a Lender –This website is represents the Greg Abbott, the Attorney General of Texas. Here consumers can find information about how to find a lender and what loan terms mean.
Mortgage Financing –This is a PDF document that goes in depth about mortgage financing. It explains escrow and other mortgage terms and options for home owners.
My Fico – My fico is a reputable site that compares and contrasts different types of mortgages. The site talks about six main types of loans such as 30-year fixed, 15 year fixed, ARMS, interest only, payment option and balloon mortgages.
HUD Handbook –This is a PDF guide book about FHA mortgages and the application process.
Consumer Financial Protection Bureau –This site talks about the differences between a fixed rate and an adjustable rate mortgage. They stress the importance of knowing how your ARM loan adjusts, if you have one.
Federal Trade Commission –This site goes in depth about what to do if you can’t pay your mortgage. It includes information about different types of loans, reinstatement, payment options and more.
The National Council of La Raza – This is a government site that talks about the benefits of a 30-year fixed loan for Hispanic families.