What’s The Best Loan To Buy A House?

Modern home buyers have an array of options when it comes to getting a loan for a house. Not only will you need to choose a type of home but you will also need to find the best loan to buy the house of your dreams.

There are many different types of mortgage loans, each one with a unique set of advantages and disadvantages. Your situation and preferences can help narrow down what type of loan is right for you as you determine how to get a loan to buy a house.

Fixed-Rate Home Loans

Fixed-rate mortgages are the most common type of home loan. They keep the same interest rate throughout the entirety of the loan, even if market rates go up or down. This also means that your monthly payment will stay the same.

How Do Fixed-Rate Mortgages Work?

Fixed-rate mortgages are offered in a variety of terms, though 15- and 30-year are the most popular. Since your interest rate doesn’t change, the part of your monthly payment that goes toward paying your mortgage will remain the same. That said, your property taxes and home insurance premiums may change and could raise your escrow payment.

Who Should Choose A Fixed-Rate Loan?

Home buyers who want a consistent and predictable monthly payment and plan to stay in their forever home should consider this type of loan.

Adjustable-Rate Mortgages

Buyers who purchase a starter home that they plan to move out of within a few years or who plan to pay off their loan early can save money by choosing an adjustable-rate mortgage (ARM). Borrowers need to meet the same credit and income standards as a fixed-rate conventional loan to qualify for an ARM.

How Do Adjustable-Rate Mortgages Work?

To understand how adjustable-rate mortgages work, you’ll need to first know that this type of home loan is broken down into two periods: introductory and adjustment.

The Introductory Period

During this period, you get a fixed rate lower than current market rates. After the initial period, your interest rate will rise or fall based on current market interest rates.

The Adjustment Period

Home buyers with an ARM risk rising interest rates after the introductory period. These types of loans include interest rate caps. Caps limit how much your interest can rise (or fall) over the course of your loan.

Your loan will include a rate cap for each year and a rate cap during the lifetime of the loan. Rate caps protect you from interest rates that rise year after year.

For example, let’s say your loan has a rate cap of 7% and your interest rate has already risen to 7%. It won’t rise any further, even if market rates continue to rise. However, the interest rate floor will also prevent your interest rate from falling too low.

Who Should Choose An Adjustable-Rate Loan?

Home buyers who generally save the most with an ARM are planning to move or refinance before the adjustment period. An ARM can also be a good choice if market interest rates are particularly high when you want to buy.

Conventional Loans

A conventional loan is simply a mortgage loan offered by a private lender without government backing. These types of home loans generally have stricter requirements for borrowers than government-backed mortgages.

How Do Conventional Mortgages Work?

Conventional loans tend to have stricter credit score and debt-to-income ratio (DTI) qualifications than government-backed loans. You’ll need a credit score of 620 points and a DTI that’s less than or equal to 50% with most lenders.

Many home buyers believe that they need at least a 20% down payment to buy a home with a conventional loan. It’s possible to get a conventional mortgage with as little as 3% down.

This misconception likely comes from confusion around private mortgage insurance (PMI). PMI is a type of insurance that protects lenders when home buyers can’t pay their loans. When you make a down payment of less than 20%, your lender requires you to pay PMI. The good news is that you can cancel PMI once you reach 20% equity in your home.

Who Should Choose A Conventional Loan?

Conventional loans can be a good option for home buyers who meet stricter financial requirements. They can have lower interest rates than other popular options like FHA loans. If you qualify, a conventional loan could save you money.

Non-Conforming Loans

Non-conforming loans are loans that don’t meet the guidelines set each year by the Federal Housing Finance Agency (FHFA). This means they can’t be bought or sold by Fannie Mae or Freddie Mac, the two main buyers of mortgage-backed securities (MBS).

Conforming Vs. Non-Conforming Loans

From a lender’s point of view, the main difference between a conforming and a non-conforming loan happens after you close on your loan. Many types of familiar loans are considered non-conforming including government loans and jumbo loans – used to buy high-priced properties.

Most conforming loans are purchased shortly after your closing date by Fannie Mae or Freddie Mac, the government-sponsored enterprises (GSEs). Selling mortgages in this way frees up funding for lenders to approve more mortgages, and it does not affect the homeowner in any way. Most mortgages are conforming loans.

FHA Loan

Buyers who want to buy a home with a low credit score should consider an FHA loan backed by the Federal Housing Administration (FHA). FHA loans are the most widely available government-backed loans.

How Do FHA Mortgages Work?

FHA loans are offered through private lenders incentivized by government-backed home loan insurance. This is why their financial requirements are less strict. Government-backed home loans offer lenders government insurance against a borrower’s default.

This makes these loans less risky if borrowers can’t repay the loan. You can get an FHA loan with a credit score as low as 580, with at least a 3.5% down payment.

FHA Mortgage Insurance Premium

With an FHA loan, you need to pay an upfront mortgage insurance premium as well as a monthly mortgage insurance premium (MIP) payment. Unlike PMI, you can’t cancel your MIP