Your stress-free guide to buying home loans
By Bob Walsmith Jr.
Santa Barbara Association of Realtors
With this super-simple breakdown of loan types, you won’t be overwhelmed, you’ll find the right mortgage.
When it comes to buying a home, most people know what they prefer: a bungalow or a condo, a red-light district or a sleepy street.
Mortgages, too, come in many styles – and recognizing which type you should choose is just a bit more complex than, say, knowing that you prefer hardwood floors to carpet.
First, to choose the best loan for your situation, you need to know exactly what your situation is. Are you going to stay in this house for years? decades? Do you feel comfortable financially? Are you anxious about changing loan rates?
You’ll want to have an understanding of the different loans that are out there. There are a lot of options, and it can get a bit complicated – but you have this. Here we are.
Mortgages are fixed or adjustable, and one type is better for you
Let’s start with the most common type of mortgage, the workhorse of home loans: the fixed rate mortgage.
A fixed rate mortgage:
· Allows you to lock in an interest rate for 15 or 30 years (there are also 20-year loans). This means that your monthly payment will remain the same for the duration of the loan. (That said, your property taxes and insurance premiums will likely change over time.)
It is ideal when: You want long-term stability and plan to stay put.
Here’s what else you need to know about fixed rate mortgages:
· A 30-year fixed rate mortgage offers a lower monthly payment for the loan amount (for this reason it is more popular than the other option, the 15 year).
· A 15-year fixed rate mortgage usually offers a lower interest rate but a higher monthly payment because you pay off the loan amount faster.
Now let’s move on to variable rate, the other type of mortgage you’ll be looking at.
An adjustable rate mortgage (ARM):
Offers a lower interest rate than a fixed rate mortgage for an initial period — say, five or seven years — but the rate can fluctuate after the introductory period ends, depending on how interest rate. And that can complicate budgeting.
· Has caps that protect how high the rate can go.
It is ideal when: You plan to live in a house for a short time or expect your income to increase to compensate for potentially higher future rates.
Here’s what else you need to know about variable rate mortgages:
· Different lenders may offer the same initial interest rate, but different rate caps. It’s important to compare price caps when shopping for an MRA.
· Variable rate mortgages have a reputation for being complicated. As the Consumer Financial Protection Bureau advises, be sure to read the fine print.
A rule of thumb: when comparing adjustable rate loans, ask the potential lender to calculate the highest payment you might have to make. You don’t want any surprises.
Conventional loan or government loan? Your life answers the question
The fixed or variable rate mortgage you qualify for introduces a whole host of other categories, and they fall into two categories: conventional loans and government loans.
· Offer some of the most competitive interest rates, which means you’ll likely pay less interest over the life of the loan.
· Generally, you can get one faster than a government loan because there is less paperwork.
Who is eligible? Generally, you need at least a credit score of 620 or better and a 5% down payment to qualify for a conventional loan.
Here’s what else you need to know about conventional loans:
If you put less than 20% down on a conventional loan, you will have to pay private mortgage insurance, an additional monthly fee designed to mitigate the risk to the lender that a borrower might default on a loan. (The PMI ranges from about 0.3% to 1.15% of your home loan.) The result: The lender must cancel the PMI when you reach 22% of your home’s equity, and you can ask for it to be cancelled. once you reach 20% net worth.
· Most conventional loans also have a maximum debt-to-equity ratio of 43%, which compares the amount you owe (student loans, credit cards, auto loans and other debts) to your income, expressed as a percentage.
Fannie Mae and Freddie Mac set limits on how much money you can borrow for a conventional loan. A home loan that respects these limits is called a conforming loan:
· In most cities, the maximum conforming loan amount is $548,250.
· In high-cost areas, such as New York and San Francisco, the limit is $822,275.
· Limits are reviewed annually and are subject to change based on the average home price in each area.
A home loan that exceeds these limits is called a giant loan:
Jumbo loans generally require a higher down payment (up to 30% for some lenders) and a credit score of at least 720. Some borrowers can qualify by down payment of 20%, but their credit score must be higher .
They also tend to have stricter debt-to-income requirements, typically allowing a maximum DTI ratio of 38%.
There are also practical considerations to take into account before getting a jumbo loan, mainly: Are you comfortable with so much debt? The answer depends on your current financial situation and your long-term financial goals.
There are other types of loans. You should contact your trusted real estate agent for suggestions of lenders to talk to for help.
Bob Walsmith Jr. is a Southern California native and Realtor® at Berkshire Hathaway HomeServices California Properties in Santa Barbara. During his work with the Santa Barbara Association of Realtors, Bob has served on the CORE Committee, the Education Committee, served as Chair of the Budget and Finance Committee and the Multiple Listing Service Committee. He is also a member of the board of directors of the Alpha Resource Center in Santa Barbara. Bob lives in Goleta with his beautiful wife Julie. When he’s not working, Bob enjoys golfing, tasting fine wine, eating well and walking our beautiful coastline. Bob can be reached at 805.720.5362 and/or [email protected]