Mortgage Loan Types
Discover the many mortgage loan types available, from fixed rates to adjustable rates and bad credit loans.
This type of mortgage ensures the borrower that the interest rate and payments will remain consistent throughout the duration of the loan. These conventional loans are usually arranged in 15, 20, or 30-year terms. The monthly payment is divided between paying off the principal and interest. Any amount of money that is put towards the value of the home is known as equity in the home.
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Temporary Buy-downs Mortgages
Buy-downs work the same way as paying points on a loan to lower the interest rate. The exception is that buying down the rate of themortgage loan is usually a temporary effect, whereas paying points on the loan is a permanent reduction.
How a buy-down works is that the rate of the loan is reduced for the first few years of the loan’s term, and then gradually increases until it reaches the level as stated by the original loan agreement. Since the rates are initially lower, so too are the monthly payments. To reciprocate the lender, sufficient money must be paid up front upon closing.
Balloon Mortgage Loans
This is very similar to a conventional fixed-rate mortgage, except that it has a shorter term. Like the fixed-rate loan, the principal must be paid in full at the end of a predetermined date. Therefore, an eight-year mortgage would carry the same payments as a twenty-year mortgage. The difference is that when the eight years are up, the remaining balance must be paid, or the borrower has the option of refinancing a new loan.
Balloon mortgages are usually offered at more competitive prices because there is less risk involved for the lender with a shorter term of the loan.
Adjustable Rate Mortgages
These types of mortgages work as opposites to the fixed-rate loan. Adjustable rate loans, or “ARMs,” have a fluctuating interest rate, which lends itself to varying amounts due for monthly payments. Typically, the interest rate on an ARM will be constant for the first few years, much like a fixed-rate loan, but will then be allowed to change in accordance with changing various economic factors. This type of loan is often the most favorable to the lender because a changing economy places the burden of risk onto the borrower. Because of this, though, most lenders offer a lower interest rate to compensate for the increase in risk assumed by the borrowers.
An ARM’s adjustment period refers to the set period of time when the loan’s rate is adjusted. However, there are caps, which is a limit for both individual and cumulative rate adjustments. The index is the measuring stick that lenders employ to adjust the rate on an ARM. Negative amortization refers to the outcome of interest rate adjustments and caps failing to pay for the monthly interest of your loan. When this occurs, the remaining balance is re-added to the total you previously owed.
There are also convertible ARMs, which allow the borrower to switch from a conventional ARM to a fixed-rate loan at particular times throughout the term. This is beneficial to those who want to take advantage of the low rates that accompany an ARM upon agreement, but also want the risk-free aspect of the fixed-rate mortgage in the future.
Some things to consider when debating whether or not to pursue an ARM are as follows:
- If the rate was fully adjusted based on the updated value of the index, what would my interest rate be?
- Are there any pre-payment penalties?
- How much time must pass before the rate can adjust? And at this time, how much can the rate adjust?
Bad Credit Loans
Bad credit loans are mortgage loans that are made by private lenders instead of a bank or other institutional lender. A bad credit loan will carry a higher interest rate based on the poor financial position of the borrower and higher risk for the lender. On the plus side, a bad credit or hard money loan can be made much more quickly than a traditional loan -- sometimes as quickly as 5-7 days.