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Mortgage

What Kinds of Mortgage Loans Are Available?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

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When it comes to financing the largest purchase you’ll ever make in your life — your home — it’s essential that you approach it as an informed consumer. Not educating yourself during the mortgage process could mean ending up with a more expensive loan than necessary and could cost you tens of thousands of dollars.

To avoid that, make sure you have an understanding of all your financing options. In this guide, we’ll go over the different types of mortgage loans to help you find the one that best meets your needs.

Mortgages are classified based on a few overarching criteria.

  • Government-backed or conventional. All mortgages fall into one of the two categories.
  • Fixed-rate or adjustable rate. This refers to how the interest rate on the mortgage is structured.
  • Jumbo or conforming. The amount of the loan dictates whether it is a conforming or jumbo loan.

Tendayi Kapfidze, chief economist for LendingTree, the parent company of MagnifyMoney, said multiple factors dictate which loan product is best for an individual. You’ll need to consider the size of your down payment, the price of the home, your credit history, your risk tolerance and your eligibility for specific loan programs. “Once you have some preferences on those, then you shop around and see what kind of deals you’re getting,” Kapfidze said.

Let’s take a look at the various loan options.

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Government-backed vs. conventional home loans

Loans are defined one way by whether they’re a government loan or not. The government offers three loan programs: FHA, VA and USDA. A conventional mortgage is any loan that is not a part of one of these programs.

Government-backed loans target and serve consumers who may be underserved by traditional financing. Because lenders potentially take on greater risk by extending credit to these borrowers, the government provides protection to lending institutions by insuring the loans. The cost of insuring or guaranteeing the loan is passed on to the buyer through fees built into the mortgage.

Federal loans tend to be more expensive than conventional loans, but they are easier to qualify for. You may need a lower credit score to qualify, and you may be able to put down a smaller down payment.

Let’s review the three types of government loans.

FHA

FHA loans are insured by the Federal Housing Administration. These loans let you purchase a home with a down payment as low as 3.5% and a credit score as low as 500, depending on the size of the down payment.

You’ll be limited in the amount you can borrow, based on the market rate for homes in a specific area. With FHA financing, homebuyers usually pay mortgage insurance premiums through an upfront charge of 1.75 of the loan amount, which can be rolled into the mortgage. Additionally, you’ll pay an annual mortgage insurance premium that is built into the monthly payment.

You can finance properties of between one and four units as well as mobile and manufactured homes that meet FHA program requirements. You apply for FHA loans through FHA-approved private lenders.

Advantages of an FHA loan:

  • Low down payment
  • Lenient credit requirements
  • Low closing costs

FHA loans are best for:

  • First-time homebuyers who don’t have home equity already built up that could go toward a down payment
  • Buyers with lower credit scores
  • Buyers with low down payments

VA

The Department of Veterans Affairs backs mortgages for veterans, service members and eligible surviving spouses. Borrowers can purchase homes with no money down and lenient credit requirements.

There is no purchase price limit with a VA loan. However, there are limits on how much you can finance without putting money down.

Applicants will need to meet the VA’s residual income guidelines, which establish how much income you must have left over after covering all debts and living expenses.

VA loans do not require the borrower to pay mortgage insurance, but you will pay an upfront funding fee, which is a percentage of the loan amount. You can apply for VA loans through approved private lenders.

Advantages of a VA loan:

  • No down payment (unless a lender requires one)
  • No minimum credit score (unless a lender requires one)
  • No mortgage insurance required
  • No maximum loan amount
  • No maximum debt-to-income ratio (DTI) (unless set by the lender)

VA loans are best for:

  • Veterans, service members and eligible surviving spouses
  • First-time homebuyers
  • Buyers with low or no credit score
  • Buyers with little or no down payment

USDA

Buyers in rural areas can seek financing through the United States Department of Agriculture.These programs are income-sensitive, and you must purchase a property in an eligible rural area.

The USDA has two loan programs:

Guaranteed loan program. In this program, loans are offered by local lenders and guaranteed by the USDA. Your income must fall within the income limits established for low- or moderate-income households, determined by the location of the home and your family size.

These loans carry an upfront loan guarantee fee and may also include an annual fee, both of which are at the borrower’s expense. The lenders set the interest rate for these loans, but rates are capped by the USDA.

Direct loan program. In this program, you can finance a home directly with the USDA. Your income must fall within the established guidelines for very low or low-income households. And the property itself must meet specific criteria. For example, homes must be 2,000 square feet or less in most cases.

Additionally, this program limits the purchase price based on location. Interest rates are lower in the direct loan program than the guaranteed loan program, and there is no mortgage insurance or guarantee fee. Some applicants may qualify for a payment subsidy, which can lower the effective interest rate to as low as 1%.
Advantages of a USDA loan:

  • No down payment required
  • Flexible credit requirements
  • Closing costs can be financed
  • Longer loan terms can reduce the monthly payment

USDA loans are best for:

  • First-time homebuyers
  • Low-income borrowers
  • Rural residents
  • Buyers with low or no credit score
  • Buyers with little or no down payment

Conventional

As mentioned previously, any loan that is not a part of a government program is a conventional loan. These loans are issued by private lenders and are not backed or insured by the federal government.

Conventional loans require higher down payments than government-backed loans — typically, a minimum of 5% — although some lenders offer programs with down payments as low as 3%. Borrowers who put down less than 20% will need to pay for private mortgage insurance, or PMI, which is added to the loan payment.

Credit requirements are a bit tighter with conventional financing and vary by lender. Borrowers with higher scores will qualify for better rates.

Advantages of a conventional loan:

  • Lower fees than government loans

Conventional loans are best for:

  • Applicants with good to excellent credit
  • Applicants putting down 5% or more

Fixed-rate vs. adjustable-rate mortgages (ARMs)

Mortgages are also classified by the structure of their interest rate. Loans have either a fixed rate or an adjustable rate.

Fixed-rate mortgages

The interest rate and monthly payment on a fixed-rate mortgage remain the same throughout the life of the loan. That means your payments are predictable, and you’re protected from interest rate hikes. Conversely, it also means you cannot take advantage of any interest rate drops unless you refinance the loan.

Advantages of a fixed-rate mortgage:

  • Stability
  • Easier to plan for
  • Protects you from rate increases

Disadvantages of a fixed-rate mortgage:

  • Cannot take advantage of interest rate decreases
  • Higher rates than adjustable-rate mortgages

Fixed-rate mortgages are best for:

  • Most buyers
  • Borrowers who are risk-averse
  • Borrowers who cannot afford an increase in their payment

ARMs

Unlike fixed-rate loans, the interest rate on adjustable-rate mortgages adjusts throughout the loan. The rate is tied to an index that the lender uses. As the index goes up or down, the mortgage rate and the monthly payment increase or decrease.

Interest rates on ARMs are usually lower than fixed-rate loans initially, but as the market fluctuates, the rate could increase significantly.

Adjustable-rate mortgages can differ in how they are structured. But generally, these loans have a period when the rate is fixed, which can range from one month to 10 years. The most common fixed terms are three, five, seven and 10 years.

Once the fixed period ends, the interest rate will adjust at predetermined intervals — monthly, quarterly, annually or every three or five years. The most common adjustment period is one year, which means the interest rate and payment will change once per year until the end of the loan.

When comparing ARMs, you’ll notice that they are written with two numbers such as 3/1, 5/1 or 10/1. The first number represents the fixed period while the second number represents how often the rate will adjust.

For example, a 3/1 ARM will have a fixed rate for three years and will adjust annually after the fixed period ends. A 5/1, 7/1 and 10/1 ARM will have fixed periods of five, seven and 10 years respectively, followed by annual adjustments.

The initial low rates of ARMs can be appealing for some buyers, but those rates will likely increase. “If you do consider an ARM, make sure you’re very comfortable with the possibility of your payment going up,” Kapfidze advised.

Advantages of an ARM:

  • Lower rates initially
  • Interest rates and payment could decrease

Disadvantages of an ARM:

  • Very risky and unpredictable
  • Interest rate and payment can increase significantly

Conforming vs. jumbo loans

Conventional loans are defined by another classification: conforming or jumbo.

Conforming mortgage loan

Conventional loans have maximum price limits in place set by the government as well as other guidelines established by Fannie Mae and Freddie Mac, the government-sponsored companies that insure a majority of conventional loans.

Limits are based on geographical area, with higher loan amounts allowed in counties that are considered “high cost.” Conforming loans are those that fall within the loan limits. In most of the United States, the limit for one-unit properties is $484,350 in 2019.

Jumbo mortgage loan

Borrowers who want to purchase above the conforming loan limits will need to take out a jumbo loan.

Qualification requirements are usually stricter for jumbo loans, with borrowers needing higher down payments and a strong credit profile.

Determining the right mortgage for you

Now that you have a better understanding of the types of loans, you can compare various options to see what is best for you. Again, give thought to the size of your down payment, the price of the home you wish to buy, your credit history and your risk tolerance.

Additionally, Kapfidze said one of the most important factors to consider is your bottom line. Before shopping for a loan, he advises that consumers should ask themselves how much they are able and willing to pay for a mortgage. The best way to answer that is to come up with a monthly budget projecting the prospective mortgage payment and expenses related to the home, including taxes, insurance, maintenance, repairs and utilities.

“Get a complete all-in monthly housing cost that you’re comfortable with,” Kapfidze said. He added that once you have that number, you can review the loan options that line up with your budget.

Doing this before you begin shopping is crucial, as it’s easy to get swept up in the emotion of buying a home. He also said consumers should talk to several lenders. “There’s always a lender out there that will work with your situation, you just have to find them,” he said. “The more lenders you talk to, the more chances you’ll have of finding that lender that fits your particular circumstances.”

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.

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Mortgage

5 Home Loans for People With Bad Credit

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

You don’t need a perfect credit score to get a mortgage — there are home loans for people with bad credit. But before getting this type of mortgage, find out how a lower credit score affects your overall borrowing costs.

Buying a home with bad credit

It’s possible to buy a home with bad credit — you could have a credit score as low as 500 and still qualify for a mortgage. The lower your credit score, though, the fewer lending options you’ll have and the higher your mortgage rate will be.

FICO scores, the credit scores used by most lenders, typically range from 300 to 850. Having a lower credit score translates to higher risk for a lender, and vice versa. Any score 669 or lower is considered “fair” or “poor.” Here’s a breakdown:

  • Exceptional: 800 and higher 
  • Very Good: 740-799
  • Good: 670-739
  • Fair: 580-669
  • Poor: 580 and lower 

Lenders like to see high credit scores because it exhibits an ability to manage debt, make on-time payments and use credit responsibly. Your creditworthiness will come into question if you plan on buying a home with bad credit, but it doesn’t have to hold you back from homeownership.

5 home loans for bad credit

Consider one of the following home loans for bad credit.

Fannie Mae HomeReady

Fannie Mae’s HomeReady mortgage program is an option for both first-time homebuyers and repeat buyers with limited access to down payment funds and a fair credit score. This conventional home loan has cancellable mortgage insurance for those who put down less than 20%, and gives borrowers the option to use boarder or rental income to help them qualify. If all borrowers on a loan are first-timers, at least one borrower is required to complete a homeownership education course.

Eligibility requirements include:

  • A minimum 620 credit score
  • A minimum 3% down payment
  • A low- to moderate income

FHA Loans

Mortgages backed by the Federal Housing Administration (FHA) could be considered bad credit home loans because they make it easier for low-credit-score homebuyers to get a mortgage. FHA loans have a low down payment requirement, but you’ll pay mortgage insurance premiums (both upfront and annual) for the life of your loan. If you put down at least 10%, you can get rid of mortgage insurance after 11 years.

Eligibility requirements include:

  • A minimum 10% down payment for a 500-579 credit score
  • A minimum 3.5% down for a 580+ credit score
  • Borrowing within your county’s FHA loan limits

USDA loans

The U.S. Department of Agriculture (USDA) insures mortgages funded by approved lenders through the USDA home loan program. There’s no minimum required credit score, but a 640 score could help you get approved automatically if you meet employment and income requirements.

Eligibility requirements include:

  • No minimum required down payment
  • Meeting local income limits
  • Buying a home in a designated rural area

VA Loans

The Department of Veterans Affairs (VA) also offers bad credit home loans through approved lenders for active-duty service members, veterans and eligible spouses. The VA doesn’t have a specific credit score requirement, but lenders may require a minimum 620 score. No down payment is required. Additionally, most borrowers will have to pay an upfront funding fee to offset the cost of VA loans to taxpayers.

Eligibility requirements include:

Non-qualified mortgage loans

The loans discussed above are all qualified mortgages, meaning they meet certain requirements that establish a borrower’s ability to repay a loan. There are also non-qualified mortgage (non-QM) loans, which have more wiggle room for high-risk borrowers, such as accepting credit scores below 500.

Eligibility requirements include:

  • Demonstrating your ability to repay the loan
  • A minimum down payment up to 20%
  • A maximum debt-to-income ratio of up to 55%

How to get a home loan with bad credit

Use the following list of tips as a resource to help you get a bad credit home loan.

  • Avoid applying for new credit. A new auto loan, credit card or personal loan application means you’ll have new inquiries on your credit reports, which can drop your credit score.
  • Dispute any credit report errors. Finding and disputing inaccurate information on your credit reports could improve your credit score and help lenders see you as a less risky borrower.
  • Pay your bills on time. Your payment history makes up the biggest chunk of your credit score at 35%, according to FICO. Making on-time payments can help boost your score and demonstrate your creditworthiness as a borrower.
  • Lower your outstanding debt load. Pay down your credit card and loan balances. Lenders don’t want to see that your income is stretched too thin to afford a mortgage. Keep your credit usage below 30% of your maximum credit limit across each of your accounts.
  • Don’t close any accounts. Closing old accounts, especially credit cards, shortens your overall credit history and can negatively impact your credit score.
  • Have your rent payments reported to the credit bureaus. As long as you’ve been maintaining an on-time rental payment history, having your rent payments reported to the bureaus may boost your score.
  • Make a larger down payment. A larger down payment can compensate for a lower credit score. Don’t completely drain your cash reserves, though. Keep three to six months’ worth of living expenses in a savings account for emergencies.
  • Pay for mortgage points. If you have the extra cash, consider buying mortgage points to lower your interest rate and overall loan costs. One point is equal 1% of your loan amount and can lower your rate by up to 0.25%.

Should you get a bad credit home loan?

Home loans for bad credit come with more risk for lenders, so you can expect to pay more as a borrower. Crunch the numbers with a mortgage calculator to help you determine whether to move forward with a bad credit mortgage or wait until your credit profile improves.

Here’s an example of how your credit score can affect your costs on a 30-year, fixed-rate mortgage:

 620 credit score760 credit score
Mortgage rate4.84%3.25%
Loan amount$200,000$200,000
Monthly payment
(Principal and interest)
$1,054.17$870.41
Total interest cost$179,501.82$113,348.55

As you can see, improving your score from “fair” to “very good” could amount to a mortgage payment that is nearly $184 less each month, saving you more than $2,200 each year and more than $66,000 in interest over the term of your mortgage.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.

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Life Events, Mortgage

What is Mortgage Amortization?

Editorial Note: The content of this article is based on the author’s opinions and recommendations alone. It has not been previewed, commissioned or otherwise endorsed by any of our network partners.

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The difference between your home’s value and how much you owe on your mortgage is your home equity. With each mortgage payment you make, mortgage amortization — or paying down the loan in installments — is at play, and each monthly payment brings you closer to owning your home outright.

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What is mortgage amortization?

Mortgage amortization is the process of paying off your loan balance in equal installments of principal and interest for a set time period. The interest you pay is tied to the balance of your loan (your principal) and the mortgage rate. When you first start making payments, most of the payment is applied to the interest rather than the principal.

Your principal payments catch up with interest over time until your loan is paid off. Once it reaches a zero balance, it becomes a “fully amortized loan.”

How mortgage amortization works

The easiest way to understand mortgage amortization is to look at how monthly mortgage payments are applied to the principal and interest on an amortization table. There are two calculations that occur every month.

  1. The first calculation measures how much interest is paid based on the rate you agreed to. The interest charge is recalculated each month as you pay down the balance, and you pay less interest over time.
  2. The second calculation reflects how much of the principal you pay. As the loan balance shrinks, more of your monthly payment is applied to your principal.

If you’re a math whiz, here’s the formula:

A mortgage amortization calculator does the heavy lifting for you. You can see the effects of amortization on a 30-year fixed loan amount of $200,000 at a rate of 4.375% below.

In the first year, you pay more than twice as much toward interest as you do toward the principal. However, the balance slowly drops with each additional payment. By the 15th year, principal payments outpace interest and equity starts building at a much faster pace.

How mortgage amortization can help with financial planning

A mortgage amortization table helps you assess the short- and long-term benefits of adjusting your mortgage payments. Making extra payments over the life of the loan or refinancing to a lower interest rate or term could save you thousands in interest charges over the life loan. Even better: you’ll end up with a mortgage free home sooner.

Using a mortgage calculator to configure a few scenarios, here are some financial goals you might be able to accomplish using mortgage amortization.

Calculate how much money you can save by refinancing

If mortgage rates have dropped since you bought your home, consider refinancing. If you’re in your forever home and don’t plan to move for a while, a half-percentage point drop in rates could make room in your budget to boost retirement savings, your emergency fund or put money toward other long-term financial goals.

The example below shows the monthly payment and lifetime interest savings if you replaced a 30-year, fixed-rate loan for $200,000 at 4% with a new loan with a 3.5% interest rate with the same terms.

While saving $56.74 per month on payments doesn’t seem like much, it adds up to $20,426.83 in interest savings over the loan’s lifetime.

See the effect of making extra payments

The amount of interest you pay every month is directly connected to your loan balance. Even a small amount added to the principal each month reduces interest over time. The graphic below shows how much you’d save adding an extra $50 every month to your payment on a $200,000, 30-year fixed loan with an interest rate of 4.375%.

Figure out when you can get rid of PMI

Borrowers who don’t make a 20% down payment on a conventional mortgage typically pay for private mortgage insurance (PMI). The coverage protects a lender against financial losses if you don’t repay the loan.

Once your loan-to-value ratio, or the loan balance in relation to the home’s value, reaches 78%, PMI automatically drops off. Multiply the price you paid for your home by 0.78 to determine where your loan balance would need to be for PMI to be canceled. Locate that balance on your loan payment schedule for a rough idea of the month and year PMI will end.

Decide if it’s time to refinance an adjustable-rate mortgage

Adjustable-rate mortgages (ARMs) are a helpful tool to save money on monthly mortgage payments. However, ARMs make more sense if you plan to refinance the loan or sell your home before the initial fixed-rate period ends and the loan resets to a variable interest rate.

An adjustable-rate mortgage amortization schedule helps you pinpoint when the loan will reset and gives you an idea of the worst-case scenario on payments. If the adjustments are outside of your comfort zone, consider refinancing your ARM into a fixed-rate mortgage.

The difference between a 15-year fixed and 30-year fixed payment schedule

Refinancing to a shorter term, such as a 15-year fixed mortgage, may save you hundreds of thousands of dollars over the life of a loan — but the trade-off is a higher monthly payment.

The graphs below show the difference between a 30-year amortization schedule for a $200,000, fixed-rate loan at 4.375% and a 15-year amortization schedule for the same loan amount at 3.875%.

The lifetime interest savings for a shorter loan payment schedule is $95,447.16. As long as the $468.31 increase in your mortgage payment doesn’t prevent you from meeting other savings or investment goals, the long-term savings are worth it.

Advertiser Disclosure: The products that appear on this site may be from companies from which MagnifyMoney receives compensation. This compensation may impact how and where products appear on this site (including, for example, the order in which they appear). MagnifyMoney does not include all financial institutions or all products offered available in the marketplace.

By clicking “See Rates”, you will be directed to LendingTree. Based on your creditworthiness, you may be matched with up to five different lenders in our partner network.