Homebuying comes with an immense amount of choices. You need to choose a realtor, a neighborhood, a house, a lender, and a loan type. Like home styles, there are dozens of loan types and programs meant to appeal and benefit a wide range of homebuyers.
Determining what loan type and/or program is dependent on several things, including your income, debts, property type, reserves, down payment, etc. Your loan officer will help guide you toward the loan that is best for your current situation and your future financial and homeownership plans. In the mean time, here are the basics of understanding different loan types.
Fixed vs. Adjustable Rate
The rate of interest is one of two main factors determining different loan types. A fixed-rate mortgage is a loan in which the same interest rate is charged over the life of the loan (typically 10, 15, 20 or 30 years). This means that homeowners financing with a fixed-rate mortgage have a fixed, monthly payment of principal and interest (homeowners insurance and property taxes may fluctuate over time).
An adjustable-rate mortgage (ARM) has an interest rate that initially begins at a low interest and then fluctuates between one and two points per year over a specified time period.
- 10/1 ARM –interest rate is set for 10 years and then adjusts for 20 years
- 5/1 ARM –interest rate is set for 5 years then adjusts for 25 years
- 3/1 ARM –interest rate is set for 3 years then adjusts for 27 years
There is typically a yearly cap and/or lifetime ceiling cap that the rate can increase.
Conventional vs. Government Loan
Loan programs also vary based on who the financing is insured by. A conventional loan is insured by private companies and adheres to guidelines set by Fannie Mae and Freddie Mac. Borrowers who finance with a conventional loan must provide a minimum 5 percent down payment and are subject to conditions set by their lender and state statutes.
A government loan is insured or backed by a government entity, such as the Federal Housing Administration (FHA), United States Department of Agriculture (USDA), or United States Department of Veteran Affairs (VA). Each government entity has different borrower qualifications, but FHA, USDA and VA loan programs all boast low or no down payment requirements, lower-than-market interest rates, and flexible guidelines.
For more information about loan types, refer to our Mortgage 101 Handbook, a go-to guide for first-time homebuyers on everything regarding the home financing and home buying process.