What Type of Home Loan is Best for Me? Part 2:
Conventional Loans
Conventional loans are the most popular type of loans.
Generally, the more you put down, the less of a risk you are to lenders. If you put down at least 20% of the purchase price of the loan, you won’t have to pay PMI (private mortgage insurance that lenders require to protect themselves in case you default). Also, if you put down at least 20%, you are likely to get a lower interest rate. If you put down less than 20%, you will be required to pay the PMI, which will be built in to your monthly mortgage payments.
Conventional borrowers typically pay all of their own closing costs. Furthermore, the appraisal process focuses entirely on the market value of the home, not necessarily the condition it is in.
Fixed rate versus adjustable rate loans
When you choose your loan, you will have the option of getting a fixed or adjustable interest rate. The advantage of fixed-rate loans is the ability to lock in a low interest rate (if interest rates are currently low) for the lifetime of the loan. There’s a lot of security knowing your payments will be the same year after year!
If interest rates are high, consider an adjustable rate mortgage (ARM). The interest rates on your loan adjust up and down, depending on the index the rate is tied to. With an ARM, if interest rates go up, your mortgage payments will go up (there IS a cap on how much they can go up each year). Conversely, if interest rates go down, so will your mortgage payments. The advantage of an ARM is you can make mortgage payments based on higher interest rates in hopes that eventually interest rates will fall. Once they fall, you can refinance your adjustable rate mortgage into a fixed mortgage and lock-in lower interest rates for the lifetime of the loan. On the downside, if interest rates continue to rise after you get an adjustable rate mortgage, the monthly payments can become onerous.
Term of the loan: 30 year vs. 15 year
Loans typically come in 10, 15, 20 or 30 year terms. By far, 30-year loans are most common. The advantage of a longer-term loan is the much lower mortgage payments spread out over 360 months. The downside is the higher amount of interest you will have to pay over the lifetime o the loan. Shorter term loans will save you a lot of money in interest. However, the monthly payments are much higher (typically 15 year mortgage payments are 25% higher than 30 year payments).
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