Archive for the Types of Mortgages category.
The simple definition of a construction loan is a loan used to build a home. A construction loan is very different from a typical mortgage loan. A construction loan may sometimes be more difficult to acquire than a traditional home loan, because there isn’t anything to be used as collateral for the loan. This in turn usually also means slightly higher interest rates on a construction loan.
Construction loans still offer different loan types as well as different financing terms. Typical construction loans include the 30 year fixed, 15 year fixed, 1 year ARM, 3/1 ARM, 5/1 ARM, 7/1 ARM, 10/1 ARM and interest-only loans. You can also get a short term loan usually one year while the house is under construction and then refinance into a lower interest rate term once construction is complete. This however requires two loan closing, in turn costing you two sets of closing costs. A more popular construction loan today is known as a construction to permanent loan. This type of loan only charges you 1 set of closing costs.
Before you get a construction loan you will have to get pre-qualified for the loan just like you would a regular mortgage loan. Also, just like a typical mortgage the better your FICO score and the more equity you have in the land you are building your home on will determine what type of interest rates and how much you can borrow.
Another thing to understand about construction loans is that you have to start making payments on the loan before your house is completed. This can be done by simply making the monthly payment or by setting up an interest reserve fund. An interest reserve fund basically pays your monthly payment for you while your land is being built. It’s not a free service however, this amount is added back into the loan. Basically the bank estimates how much your interest will be over a year and adds that amount onto the loan. This does however help the consumer if they are paying rent or another house payment while their home is being buit.
A bridge loan is basically a short-term loan pending another loan in the near future. They are often used to close on a property in a short period of time, stop the process of forclosure on a property, or to fill an immediate need for financing to plan for long term financing.
A common use of a bridge loan among consumers is borrowing enough money to pay down on a new home before closing the sell on their current home. The profit from the sell of their old home will be used to pay off the bridge loan balance.
There are many cons of using a bridge loan because of the high risk to the lenders. Cons include much higher interest rates usually between 12% - 15%. There will also probably be more fees associated with a brige loan as well as points paid to close the loan. Typical term lengths on bridge loans are ususally less than 3 years.
Interest only mortgage loans usually have an interest only period of 5 to 10 years. During this time period the borrower only has to pay the interest on the loan. After the initial interest only time period the remaining balance is amortized for the remaining term of the loan. For example if the initial loan was a 30 year interest only loan with a 10 year term of interest only payments the remaining balance would be amortized over 20 years.
An interest only loan allows for lower payments at the front part of the loan, freeing up cash for other purposes. Many times borrowers take out this type of loan because they are expecting a raise in the near future and will be able to afford higher payment later.
The pros of interest only home mortgage loans:
- Lower monthly payments during the interest only period
- Free up cash to save for retirement
- Still get the benefit of tax savings
The cons of interest only home mortgage loans:
- Risk of declining value of real estate and being upside down at the end of the interest only period
- Higher payments after the interest only period
- Little or no equity in your home during the initial interest only period
- Higher interest rates because they are riskier loans for the lender
If used properly you can find some advantages in interest only loans; however with the poor money management skills of most Americans it’s not the best idea. If you are planning on using an interest only loan to purchase a home you can’t really afford now, it’s not a good idea. Even though you may expect more income later in life it’s not a guarantee. Research and plan very carefully before taking out an interest only loan.
A negative amortization mortgage loan or NegAm as it is sometimes refered to is basically when aloan payment for any period not enough to cover the interest charged over that period of time. This causes the outstanding balance on the loan to increase instead of decrease with each payment made. This type of loan is most often used as a mortgage loan by a corporation, and are sometimes referred to as PIK loans. Negative amortization mortgage loans usually only have this negative amortization schedule as an introductory period and once it expires a larger payment must be made in order to avoid default on the loan.
The purpose these types of loans are usually for advanced cash management or short-term payment flexibility. Negative amortization mortgage loans are not set up or desigend to make a mortgage more affordable. Usually the introductary negative amortization period is no more than 5 years and at this time the loan must be “recast” or setup on a fully normal amortization schedule.
A reverse mortgage is a mortgage loan or lien against your home that you do not have to pay back for as long as you live there. It’s similar to a home equity loan in the fact that you are taking equity out of your home in the form of cash. You can get the cash out from a reverse mortgage in several different ways:
- a single lump sum of cash paid at closing;
- a regular monthly payment made to you in the form of a cash advance;
- A credit line somewhat like a HELOC;
- Or a combination of any or all of these;
Pros of a Reverse Mortgage
- No Credit Check;
- No income needed;
- Can’t lose your home because you miss payments;
- You never have to repay the loan;
Cons of a Reverse Mortgage
- Create debt against your home and decreased equity in your home;
- Additional fees on top of normal closing costs;
- You have to completely own your home;
- You have to be at least 62 years of age to do this;
When should you consider a reverse mortgage? If you are not facing a financial emergency now, then consider postponing a reverse mortgage. Reverse mortgages are a very expensive way to get cash. Most lenders tack on additional fees on top of normal closing costs. The fees can be as much as 4% of the loan on top of normal closing costs.
Before you decide to opt for a reverse mortgage make sure you understand all the details. Do your homework and make sure you understand exactly what you are doing.
An adjustable rate mortgage, commonly refered to as an ARM loan is a loan where the interest rate adjusts periodically based on a variety of indicies. There are different variations of an ARM loan some of which have a fixed rate for a certain period of time such as 3, 5, 7, or 10 years and after that period it turns to an adjustable rate and floats based on certain indicies.
There are also many other forms of an ARM loan including interest only ARM, balloon rate ARM, and negative amortization ARM. All of these types of loans have pros and cons, it’s knowing when to get the appropriate loan at the appropriate time that saves you money.
As mentioned earlier usually there is an initial interest rate for a certain period of time, usually 3, 5, 7, or 10 years. After this time period has expired the interest rate is adjusted based on the certin indicies. There are caps on ARM loans interest rates which are usually about 5% on top of the initial interest rate. So if your initial rate was 6% the most it could increase would be to 11% (pretty expensive if you ask me). There is also usually an option to turn the ARM mortgage to a fixed rate for an additional fee. There is usually a prepayment fee on ARM loans as well.
A great time to consider an ARM loan is when you plan to be in your current home for less than 3 or 5 years and current interest rates are low. You can do an ARM loan for 3 or 5 years and the rate will be fixed for that amount of time and take advantage of the lower rate. When you are ready to move in 3 to 5 years you will be able to sell the house and purchase your next house and start the process over. You won’t even have to worry about the variable or floating interest rate.
A home equity line of credit or HELOC as it is commonly referred to is simply what it says. It’s basically a line of credit similar to a credit card which allows you to use your home as collateral. This gives you a better interest rate on the loan than a credit card, but puts your house as risk instead of just your credit score.
Usually HELOC’s are taken as second mortgages on your primary residence. At the time of closing the lender sets a specific credit limit on the loan based on the equity you have in the home. For example if your home is valued at $200,000 and you currently have a mortgage of $150,000 on the home you have about $50,000 equity in your home. Many lenders will let you borrow up to 95% of the value of the home so your line of credit may be as much as $47,500.
Once the HELOC is established you can usually write checks from the account, use a special type of card similar to a debit or credit card, or other methods to withdraw money from the credit account.
The interest rate on a HELOC is a variable rate and the terms of the loan are established at the time of closing. Terms can be extended as much as 30 years so payments on the loan are lower.
An alternative to a HELOC is a simple second mortgage which is the same pricipal except you get the money in a lump sum. The interest rates can be variable or fixed and terms can be about the same as a HELOC.
As with any type of loan there are advantages and disadvantages. The advantages of a HELOC is the flexibility of having extra money avaliable at a moments notice with a lower interest rate than a cash advance on a credit card. You only have to withdraw the exact amount from the account, thus paying interest only on the amount you borrow. Also closing costs or up front costs are usually much lower than a second mortgage.
There are of course disadvantages or risks involved with a HELOC. Disadvantages of a home equity line of credit include rising interest rates from month to month. Since the interest floats or is variable it can increase a certain amount each month causing your payments to inflate each month. There are very large caps on the interest rates on a HELOC. Most max out at or above 18%!
Fixed mortgages or fixed rate mortgages are loans that have an interest rate that remains the same throughout the entire term of the loan. Adjustable rate mortgages or arm loans have interest rates that “float” or adjust according to current prime interest rates.
There are different variations of fixed mortgages which include different terms (how long the mortgage is financed for). Common terms for fixed rate mortgages are usually multiples of 5 and include 30 year, 25 year, 20 year, 15 year, 10 year and 5 year terms. Usually choosing a shorter term for the fixed mortgages will produce better interest rates.
There are even more variations of fixed mortgages which include balloon loans, fixed rate interest only mortgage loans, and ARM loans can even have fixed rates for a certain period of time and then adjust after that time expires.
When to have a fixed rate mortgage
You should opt for a fixed mortgage when interest are low and you plan to stay in your home for an extended period of time or if it’s your final home.
When to not have a fixed rate mortgage
If you only plan to stay in your house for a few years then a fixed rate mortgage may not be the best option for you. You will get a better interest rate on a vairable rate loan or an ARM loan than a fixed rate mortgage loan. A ARM loan is a great option if you only plan to stay in your home for 3 - 5 years or less.
A VA loan is a type of mortgage loan that is guaranteed by the U.S. Department of Veterans Affairs. VA loans are designed to offer financing to American veterans or their surviving spouses. The goal of VA home mortgage loans is to make the lending process more available to veterans and easier financing options. VA loans are offered in areas where private financing may not be avaliable, such as rural areas and small towns. They also allow the borrower to purchase a property with no down payment.
As mentioned earlier VA home mortgage loans allow the veteran to finance 100% of the home without paying private mortgage insuracne (PMI) or without having to use other creative financing methods such as piggy back loans or 2nd mortgages.
The major drawback to a VA loan is a funding fee is paid directly to the VA. This fee can range from 0 to 3.3% of the loan. This amount can be financed in with the mortgage loan but could be a hefty chunk if the loan amount is large.
FHA home loans are a great way to purchase or refinance your next home. When it comes to mortgages there many different possibilities for financing. The best way to decide which type of loan is best for you it to be informed and educated about all the different types of loans available (FHA and Conventional). Here is some valuable information about FHA home loans.
A FHA home loan is a mortgage that is insured by the Federal Housing Administration, a United States government agency. FHA loans were designed by the government to allow lower income families an opportunity to purchase a home. Today FHA home loans allow borrowers to purchase homes with smaller down payments, less than perfect credit and higher debt to income ratios. There are disadvantages of FHA loans including PMI or mortgage insurance, more strict property requirements, maximum amount a loan can be, and possible additional income tax penalties if you sell the property too soon.
Before you decide which type of loan to pursue consider all the pros and cons of each type of loan.