7 types of mortgage loans every homebuyer needs to know

Buying a home is an achievement that offers greater financial stability and the opportunity to build wealth — plus the freedom to paint the walls without getting permission from your landlord.

But the process of getting a mortgage loan can be overwhelming, especially since there are so many different types of mortgage loans. In fact, about one third of first-time homebuyers report shedding tears during the homebuying process. Luckily, you can lean on your real estate agent and mortgage loan officer for guidance, and there are plenty of resources available online to help you understand your loan options. 

In this article, we’ll go over the basics of the different types of mortgage loans, so you can choose the mortgage that makes the most sense for your household. The best option will depend on what you’re eligible for, your future plans, and current mortgage rates.

Types of Mortgage Loans

Fixed-rate mortgage

With a fixed-rate mortgage, your interest rate and monthly payment stay consistent for the life of the loan. These mortgages are popular when interest rates are low, since they allow borrowers to lock in a low rate. They’re best for homebuyers who want a predictable budget. 

Fixed-rate mortgages commonly come in 15-year and 30-year terms. A shorter term means a higher monthly payment but allows you to save money on interest over time.

Fixed-rate mortgages pros and cons 

Pros Cons
• Predictable monthly payments

• Easier to understand and plan for

• Rates may be higher than with an adjustable-rate mortgage

• Requirements are stricter than with a government-insured loan

• To get a lower rate, you must refinance

 

Conventional fixed-rate mortgages are more difficult to qualify for than government-insured mortgages. In most cases, you’ll need at least a 620 credit score and a 3% down payment. If you put less than 20% down, you’ll also be required to pay for private mortgage insurance. The same is true for conventional adjustable-rate mortgages. 

Adjustable-rate mortgage

With an adjustable-rate mortgage, you’ll make fixed payments during an initial fixed-rate period, and then the interest rate will adjust based on the market. ARMs are popular when interest rates are high, because they offer a lower APR initially, meaning you’ll pay less in interest and fees during the fixed period. Most ARMs also come with rate caps that limit how much your rate can vary during the adjustable period. 

The initial period can last six months to ten years. The most common type is a 5/1 ARM, which features a fixed rate for the first five years of the loan. Because ARMs come with unpredictable monthly payments during the adjustable period, they’re best for homebuyers who expect to move or refinance before the initial period has concluded. 

Adjustable-rate mortgages pros and cons 

Pros Cons
• Lower initial APR than a fixed-rate mortgage

• Monthly payments could go down if interest rates drop

• Rate caps offer some protection from unaffordable monthly payments

• Unpredictable payments during the adjustable period can be difficult to budget for

Plans to sell may fall through, and refinancing can be costly

FHA mortgage

With an FHA mortgage, the Federal Housing Administration insures the mortgage. That makes these loans easier to qualify for with a lower credit score and a down payment as low as 3.5%. FHA loans are a great option for borrowers who don’t qualify for a conventional loan. 

However, mortgage insurance premiums are required for homebuyers who put less than 20% down. And unlike private mortgage insurance, you can’t cancel FHA mortgage insurance once you’ve reached 20% equity in your home. 

FHA mortgages pros and cons

Pros Cons
• Looser credit requirements

• Low down payment requirements

• May come with mortgage insurance premiums lasting between 11 years and the full term

VA mortgage

With a VA mortgage, the loan is backed by the Department of Veteran Affairs. VA loans are only available to eligible service members, veterans, and their spouses. There’s no down payment required in most cases, no prepayment penalty, and no mortgage insurance requirement. What’s more, VA mortgage borrowers often get access to better rates and fewer closing costs. VA loans require a VA funding fee, however. This fee helps to keep loan costs low for taxpayers. The fee ranges from 1.4% to 3.6% of the loan amount, depending on your down payment and whether you’ve taken out a VA-backed purchase loan before. 

VA mortgages pros and cons

Pros Cons
• No down payment required for conforming loans

• No prepayment penalty

• No mortgage insurance

• Only available to eligible military members and spouses

• VA funding fee required

USDA mortgage

USDA mortgages are issued or insured by the U.S. Department of Agriculture. They’re only available to borrowers seeking a home loan for a property in an eligible rural area. There are also household income limits that vary depending on the type of USDA mortgage. You can put as little as $0 down with a USDA loan, but a guarantee fee is required for the life of the loan. It works similarly to mortgage insurance. For 2023, the fee is 0.65% of the loan amount upfront and 0.35% of the loan amount annually. 

USDA mortgages pros and cons

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