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Types of Mortgages
Fortunately for buyers, there are a
variety of mortgages to choose from. It is in your best interest to
investigate each of them to determine which is the best for your
situation. You probably won't qualify for all of them. In fact, you
may only qualify for one. But if you do qualify for more than one,
you may save yourself money (and worry) in the long run if you do
your homework before signing on the dotted line.
- Fixed-Rate
Mortgages
-
Adjustable-Rate Mortgages
- The
Convertible ARM
- FHA
and VA Loan
-
Fixed
Rate Mortgages
Consider a fixed rate mortgage if either of the following
describes you:
- You plan on living in your new
home for many years, and/or
- You are not a risk-taker and
prefer the stability of knowing how much your payment will be
monthly.
Since most home loans are for a period of 30 years, if you want
a payment you can count on for that long of a period of time, a
fixed rate mortgage may be what works best for you. Once your
loan amount and interest rate are calculated and locked in, a
fixed rate mortgage will guarantee that you will have the same
payment over the life of the loan. Making extra payments to
principal will allow you to pay your loan off sooner.
This may not always be the best choice, however. If interest
rates are very high at the time you take out your loan, with a
fixed rate mortgage you'll be stuck with that high interest for
the life of the loan (unless you choose to refinance).
Conversely, if interest rates are very low, you'll come out the
winner with interest rates that will stay low no matter how high
interest rates go in the future.
The following are descriptions of the varying lengths and terms
of fixed-rate mortgages:
15-Year Fixed-Rate:
-
You to
pay off the loan in half the time of a 30-year loan.
-
Equity
builds up more quickly than in a 30-year loan.
-
Payments are higher (which may be a problem if you lose your job
or become unable to work).
20-Year Fixed-Rate:
-
You to
pay off the loan in 2/3 the time of a 30-year loan.
-
The
overall interest paid is considerably less than for a 30-year
loan.
30-Year Fixed-Rate:
-
The
most common choice, especially for first-time homebuyers, as
it's the easiest of the fixed-rate loans to qualify for.
-
Monthly
payments are lower than for 15-year and 20-year loans. This can
prove especially helpful if you don't have a lot of "padding"
between the amount you can afford to spend & the monthly payment
for your desired property.
-
More
desirable if you plan on staying in the same home for years,
since equity builds more slowly than for shorter-term loans.
-
For
income tax purposes, this term provides the maximum interest
deduction.
Adjustable-Rate Mortgages (ARMs)
If you are more comfortable in taking a risk with your money or
if interest rates are very high at the time you take out your
loan, an adjustable-rate mortgage (ARM) may be the solution for
you. You might also choose this type of loan if your planned
ownership of the property is short-term or if you expect your
income to increase to cover any potential rise in the interest
rate.
Generally, the interest rate when you take out your loan will be
lower than a fixed-rate mortgage. Please note that this is true
initially, not necessarily long-term .
Since an ARM rate rises and falls depending on the prevailing
interest rate, your mortgage payment will rise and fall
accordingly. If your income isn't sufficient to cover the
highest possible payments, then this option isn't for you. On
the positive side, the lower initial payments will allow you to
qualify for a larger loan than if you choose a fixed-rate. The
downside is that your payments will increase if/when the rates
go up.
Typically, ARM interest rates are tied to a specific financial
index (such as Certificate of Deposit index, Treasury or T-Bill
rate, Cost of Funds-Indexed Arms or COFi, or LIBOR (London
Interbank Offered Rate) and your payment will be based on the
index your lender uses plus a margin, generally of two to three
points. Get the formula used by your lender in writing and make
sure you understand what it means.
Fortunately, the amount an ARM can increase is not unlimited.
There are "caps" on how much your lender can increase your rate,
both for a period of one year and for the life of the loan. Plan
ahead, and have your lender calculate what the maximum payment
would be if your rate went to the highest amount allowed by the
cap for your particular mortgage. If you're not confident you'll
be able to pay that amount on a monthly basis, perhaps you
should reconsider this type of loan.
Convertible ARMs
If neither the fixed-rate nor the adjustable-rate mortgage seems
the best option, perhaps the convertible ARM will be right for
you. This alternative combines the initial advantage of an ARM
with a fixed rate after a predetermined number of years.
Obviously, this type of mortgage has more advantages when the
initial interest rate is low and the future rate is not
guaranteed.
Government Loans
Another mortgage option available to some people is a government
loan, providing that you meet the qualifications for these
loans.
-
VA
Loans: Veterans may qualify for a loan from the Veterans
Administration. There is a limit on the amount you can borrow,
so this option works best for those buying a lower priced home.
-
FHA
Loans: The Federal Housing Association offers loans to
lower-income Americans. Look for the phrase "FHA approved" when
looking at ads for homes.
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