Mortgages are vital financial tools that enable millions of Americans to achieve homeownership.
A survey undertaken between July 2021 and June 2022 revealed that 78 percent of homebuyers used mortgages to finance home purchases.
Most of these mortgages are fixed-rate loans. Unlike variable-rate mortgage loans, fixed-rate mortgages carry the same interest rate for the whole loan duration.
This predictability allows homeowners to avoid payment risk by knowing how much they pay each month.
Fixed-rate and variable-rate mortgages are two basic types of mortgages. However, there are numerous types of mortgage loans available on the market.
Determining which suits you best is essential, as it can affect your down payment, monthly payments, and home equity.
In this article, we’ll go over the four types of mortgage loans and the specific circumstances in which you should use them.
1. Conventional Mortgages
A conventional mortgage is available through a private sector lender, such as banks and credit unions.
These lenders often have stricter lending requirements, making conventional loans more challenging to qualify for than those mortgages backed by a government agency.
Although this type of mortgage doesn’t receive any backing or guarantees from the government, it’s the most common type among loan applications.
A conventional mortgage can be an affordable option to finance a home purchase as long as you meet the lender’s criteria.
It’s worth noting that qualification criteria for conventional mortgages often include a higher credit score and a larger down payment than government-backed loans.
Typically, the minimum credit score requirement is 620, but you’ll need a score of 740 or higher to secure the lowest rate and best terms.
Conventional mortgages are worth considering if you have excellent credit and can make a more substantial down payment.
Note that a 20 percent down payment is necessary if you want to avoid paying for private mortgage insurance (PMI), which can increase the annual cost of the loan.
2. Department Of Veteran Affairs (VA) Loans
The Department of Veteran Affairs (VA) guarantees this mortgage to assist veterans, service members, and their families in home purchases.
Eligible borrowers of VA loans can secure this home financing with little or no down payment and mortgage insurance.
Like conventional mortgages, these mortgages are offered through a private lender. But, since the federal government guarantees a portion of a VA home loan, the credit requirements are typically more flexible than conventional loans.
Despite the government guarantee, borrowers must meet the lender’s credit and income requirements to obtain financing.
Most VA lenders impose a minimum credit score of 620, but some may accept scores as low as 500. Even with bad credit, you can obtain this type of mortgage.
There’s no specific income limit to be eligible for VA loans. However, borrowers must still demonstrate they have the income sources to make the mortgage payments.
Regarding VA loan requirements, lenders allow more flexibility and tend to make exceptions at their discretion.
With the VA backing a portion of the loan, the rates of VA loans are generally lower. Hence, if you’re eligible, you’ll likely want to take advantage of this type of mortgage.
It’s essential to point out that not all service members and veterans automatically qualify for VA loans.
There are minimum active-duty service requirements. A Certificate of Eligibility (COE) issued by the VA will confirm that you meet the qualification requirements for the loan. Without it, you won’t be able to secure a VA mortgage loan.
3. US Department Of Agriculture (USDA) Loans
The US Department of Agriculture (USDA) provides a loan program for low- and middle-income homebuyers to finance their homes in rural parts of the county.
With USDA loans, eligible homebuyers can purchase their home without a down payment.
You can access this mortgage through direct loans from the USDA or guarantee loans from a private lender. It depends on your specific situation and eligibility. Both options offer the main advantages of USDA loans, like zero down payment.
However, there are notable differences between USDA direct loans and guarantee loans. For instance, a USDA direct loan is designed for eligible borrowers with income spanning between 50 and 80 percent of the rural area’s median income.
Meanwhile, with the USDA guarantee loans, borrowers can still qualify with an income of up to 115 percent of the area’s median income.
Regardless of their differences, both USDA loans offer affordable mortgages in rural areas, particularly for individuals with low and moderate incomes.
4. Federal Housing Administration (FHA) Loans
The Federal Housing Administration (FHA), under the US Department of Housing and Urban Development’s (HUD) supervision, insures loans issued by a bank or other lending institution.
An FHA loan is intended for specific borrowers struggling to secure loans from private lenders.
Since a government agency backs it, the qualification criteria for FHA loans are often easier to satisfy.
The minimum credit score and down payment are often lower, making this mortgage popular and beneficial to first-time home buyers.
It’s possible to obtain an FHA loan with a credit score of 580, provided you can put down 3.5 percent of the home’s purchase price.
Even with a score of as low as 500, you can qualify for this affordable mortgage as long as you can make a 10 percent down payment.
FHA loans have flexible underwriting standards. Hence, they can be a viable option, primarily if you need stellar credit and limited savings for a down payment.
However, due to the required mortgage insurance, FHA loans can also become costlier.
A Final Key Reminder
No matter the type of mortgage loans you secure, careful consideration is imperative before making your choice. In most cases, borrowers have to repay this type of mortgage over a long period.
Remember that the most suitable mortgage option varies depending on the factors unique to your situation as well as the potential loan terms. Thus, take the time to search for a loan that meets your budget and needs.