Your Most Common Home Loan Options
Unless you’ve been squirrelling away cash for a good chunk of your life or hit the lotto, chances are you’re going to have to get a home loan to buy your house.
Long gone are the “Wild West” days of lending that went down during the real estate boom where banks would allow all kinds of silliness. No down payment? No documentation of your income? Buying a $700,000 house? Sure! Why not?!
Now, banks are a little more gun shy and are actually practicing financial sanity. As a consequence, the lending options available to most home buyers are much more limited. If you’re looking to buy a home, here’s a review of your most likely options:
Fixed Rate Mortgages
These are the most common mortgages out there and are the route most people take when picking up a loan. The pros of a fixed rate mortgage are that your payment will remain stable and locked in for the duration of the loan.
Your taxes and insurance may vary from year to year, which will affect your overall payment, but the amount you pay for interest and principle will not. A loan for almost any length of time can be set up with your bank (if they are willing) but the most common are 15 and 30 years.
Many people find it advantageous to take out a 30 year mortgage and then pay it off like a 15 year mortgage. This dramatically reduces the amount of interest paid and the time it will take to pay off a loan but gives you some protection against a higher payment if something were to happen.
Adjustable Rate Mortgages
These kinds of loans have an introductory period where the interest rate is locked in and fixed. Then, at a set time in the future, the interest rate increases per a preset schedule.
For example, you would pay 5% for 5 years and then every year after that, the interest rate would adjust according to the terms of the loan. Usually it’s based on the prevailing interest rates plus some amount.
The obvious drawback to a loan like this is that you’re not sure what your payment is going to be in the future. Usually, these loans are taken out by people who are planning to pay off the loan sooner rather than later or buyers who think they can get a more traditional loan after the initial period.
Interest Only Mortgages
With these loan options, the borrower is required to only pay the interest portion of a loan for a set amount of time (usually one to ten years). During this time, you can pay down the principle of the loan as you see fit and are encouraged to so that after the interest only period of the loan is done payments will be more manageable.
Once you have reached the end of the interest only period of the loan, whatever is left over for interest and principle are combined together and re-amortized. Basically, your payments go way up!
Which is Right for You?
Conventional fixed rate mortgages are the most common for a reason; they are the safest. You know the payment, you know the interest rate and there is no uncertainty. They also, usually, come with the lowest interest rates.
Talk to your real estate agent, accountant, financial advisor and banker (remembering that they have a financial stake here) about your loan options and see what fits your income, life and home buying plans.