10 types of mortgages, explained

The vast majority of homebuyers don’t have the funds to pay for a home outright, which means millions of mortgages are being paid off in monthly installments. With a US homeownership rate of 65.5% in the fourth quarter of 2021, the mortgage industry is big business: but not all mortgages are created equal.

Real estate platform ZeroDown has compiled a list of 10 types of mortgages, using information from mortgage providers, government agencies and real estate media.

The lowest mortgage rates often go to borrowers with the best credit history, the highest down payments (20% of the purchase price or more, typically), and the lowest debt-to-equity ratios. For everyone else, most of whom have deposited between 6% and 7%, the federal government has a number of programs to help with mortgages: the Federal National Mortgage Association, or Fannie Mae; the Federal Home Loan Mortgage Corporation, or Freddie Mac; and the Government National Mortgage Association, or Ginnie Mae. These federally backed mortgages can help low-income borrowers who may have a smaller down payment or less than stellar credit record buy homes.

The list to come serves as an explanation of the pros and cons of the various mortgage options.

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Classic loan

Conventional loans are not guaranteed by government agencies and may include other loans on this list. Most other loans fall into one of two categories of conventional loans: conforming (with lending rules set by Fannie Mae and Freddie Mac) and non-conforming (with lender-defined features that operate outside the guidelines of Fannie Mae or Freddie Mac).

Interest charges vary based on each borrower’s credit score and debt-to-equity ratio, but a conventional loan rate is generally best suited to those with a credit score above 680 who can take advantage of lower interest and monthly payment rates. Alternatively, FHA loans may be suitable for those with credit scores below 680.

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giant loan

With house prices soaring, many buyers need mortgage amounts above the $647,200 limit that applies to most conventional loans (up to $970,800 in particularly expensive areas).

Buyers and owners who wish to refinance a high-end property will have to find the aptly named “jumbo loan”. Not all lending companies offer jumbo mortgages, but those that do often reserve them for wealthier customers. Lenders do not sell these loans to government agencies and will often be stricter about the qualifications a borrower must meet. But like conventional loans, jumbos are usually offered with a fixed or adjustable interest rate.


Fixed rate mortgage

Some mortgages come with a fixed rate loan, which involves a static interest rate for the life of the loan.

Many varieties of mortgages are offered at fixed rates. Especially when prevailing interest rates are relatively low, borrowers benefit by locking in a rate for the term of the loan and relying on a predictable bill due each month.

Homeowners with fixed rate mortgages have the option to refinance if rates drop.

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Adjustable rate mortgage

The adjustable rate mortgage became popular in the 1970s when interest rates were relatively high.

ARMs may initially carry lower interest charges than the prevailing fixed rates. Over the years, rules on how lenders can prudently make these adjustable mortgages have been developed.

Offered with an initial fixed rate term, ARMs can be fixed for one, five, seven or 10 years. Known by its numeric values, such as “5/1”, the first digit indicates the duration of the fixed rate; the second refers to how often the rate may change after the initial period. A 5/1 ARM maintains a stable rate for five years with subsequent variations each year.

If borrowers think they are likely to move again after a certain number of years, they can take out an ARM with the initial fixed-rate period matching their intended stay.

Amnaj Khetsamtip // Shutterstock

FHA loan

Federal Housing Administration mortgages are placed under the auspices of the Department of Housing and Urban Development. Offered to stimulate home ownership, borrowers whose credit scores are too low to qualify for a conventional loan may qualify for an FHA mortgage, which can be obtained with just a 3.5% down payment.

If the borrower defaults on an FHA loan, the government will step in to repay a lender, so there are rules designed to avoid this possibility. This could mean more rigorous evaluation to ensure a home meets safety standards. Loan size limits also apply.

Because FHA loans are considered riskier, they incur additional costs for insurance that will pay the lender in the event of a home foreclosure. In March 2022, the Mortgage Bankers Association warned that high housing prices and rates were making it harder to buy a home with an FHA loan.

You might also like: The Do’s and Don’ts of Buying a First Home


USDA loan

The Department of Agriculture, the agency that lends to farmers and inspects the meat we buy at the grocery store, is also in the mortgage business. The USDA wants to promote home ownership in rural areas, so it supports home loans. USDA mortgages require no down payment and are offered at competitive, low rates.

Some Outer Ring suburbs are in eligible areas; buyers can enter an address on the USDA site to see if a home qualifies. Banks and loan companies offering USDA-backed loans are also identified on the site.


VA loan

VA loans, available to qualified active duty military personnel, veterans, and surviving spouses, are available with no down payment, lower rates than conventional loans, and limited closing costs.

If you’re an eligible borrower, it’s worth checking out offers from a loan company that extends VA mortgages. First-time homebuyers and repeat buyers can use a VA mortgage to purchase. Just like with a conventional mortgage, VA lenders set mortgage limits based on debt-to-income ratios.


Balloon mortgage

Balloon mortgages are aptly named: like blowing regular little breaths into a balloon, borrowers pay regular monthly payments until the end of a certain term, followed by a “pop” when a large final amount comes at maturity which repays the entire balance of the loan.

These loans are deemed “unqualified,” a concept developed by the federal government following the foreclosure crisis in 2008. With a qualified loan, a lender must reasonably assess whether a borrower will have the funds to reliably pay. repay the loan. These loans are not readily available and can be extremely risky for buyers.


Piggyback loan

With conventional loans, buyers with down payments of less than 20% pay for private mortgage insurance. PMI adds a charge to the monthly mortgage bill, depending on the loan amount and borrower profile.

An alternative is to take out two mortgages: a main mortgage for 80% of the purchase price and a second for the amount a borrower needs to make a 20% down payment. A borrower should carefully compare the costs between adding PMI or piggybacking because the savings might not be there. Piggyback loans are also “unqualified” mortgages, meaning they are not widely available or sanctioned by government mortgage agencies.

Zivica Kerkez // Shutterstock

Home improvement loan

In a seller’s market where many buyers are bidding against each other, the only type of house that languishes is a run-down repairman.

Buyers need time if they want to secure an FHA 203k, or home improvement mortgage, which consolidates repair costs and purchase funds into one loan. Rehabilitation costs to make the home habitable must exceed $5,000 for a property to qualify.

FHA 203k loans are like regular FHA mortgages in that they are offered at fixed and adjustable rates and cannot exceed regular FHA limits. The process of getting the 203k can be lengthy, with contractor estimates and designs purchased before financing.

This story originally appeared on ZeroDown
and was produced and distributed in partnership with Stacker Studio. The Auburn Examiner has not independently verified its content.


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