Selecting a Mortgage
Like homes, home mortgages come in all shapes and sizes: short-term, long-term, fixed, adjustable, jumbo –these are all terms that will soon be familiar to you, if they’re not already. There’s a mortgage out there that’s right for you. To figure out which one, though, you’ll want to take into consideration such factors as your risk tolerance and the length of time you plan on staying in your home.
We would love to discuss the pros and cons of each with you to determine which type of mortgage is best for you.
As the name implies, the interest rate on a fixed rate mortgage remains the same throughout the life of the loan. Your monthly payment (consisting of principal and interest) generally remains the same as well. The entire mortgage is repaid in equal monthly installments over the term (length) of the loan.
Adjustable-rate Mortgages (ARMs)
With an ARM, also called a variable rate mortgage, your interest rate is adjusted periodically, rising or falling to keep pace with changes in market interest rate fluctuations. Since the term of your mortgage remains constant, the amount necessary to pay off your loan by the end of the term changes as your loan’s interest rate changes. Thus, your monthly payment amount is recalculated with each rate adjustment.
What’s to keep the interest rate from going through the roof–or, for that matter, from plunging through the floor? Most ARMs specify interest rate caps. The periodic adjustment cap may limit the amount of rate change, up or down, allowed at any single adjustment period. A lifetime cap may indicate that the interest rate may not go any higher–or lower–than a specified percentage over–or under–the initial interest rate.
Hybrid ARMs are mortgage loans that offer a fixed interest rate for a certain time period (3, 5, 7, or 10 years), and then convert to a 1-year ARM. The initial fixed interest rate on a hybrid ARM is often considerably lower than the rate on either a 15-year or 30-year fixed rate mortgage. The longer the initial fixed-rate term, however, the higher the interest rate for that term will be. Hybrid ARMs are ideal for individuals who plan to stay in their homes for a short period of time (3 to 10 years), since they can take advantage of the low initial fixed interest rate without worrying about how the loan will change when it converts to an ARM.
A conventional loan is one that is not guaranteed (backed) by the federal government, though some still follow the guidelines of government sponsored enterprises such as Fannie Mae and Freddie Mac (those that do are called “conforming loans”).
Conventional loans typically require a qualifying ratio of 28/36, a minimum FICO score of 620 and a down payment. These loans are offered in 10, 15, 20, 25, 30 years.
Conventional loans have loan limits of $636,150 in Santa Cruz County for one-unit properties. Homebuyers looking for a larger loan will need a jumbo loan.
Jumbo loans usually require a higher credit score and charge a higher interest rate than a conventional loan because of the larger amount being borrowed. These loans are offered in 10, 15, 20 and 30 year terms.
The Federal Housing Administration (FHA), which is part of the U.S. Department of Housing and Urban Development (HUD), plays a significant role in helping low- to moderate-income families qualify for mortgages. FHA assists first-time buyers and others who would not qualify for a conventional loan by providing mortgage insurance to private lenders. Interest rates for an FHA loan are usually the going market rate, while the down payment requirements for an FHA loan are lower than conventional loans.
VA Loans are guaranteed by the U.S. Department of Veterans Affairs. Service persons and veterans can qualify for a VA Loan, which usually offers a competitive fixed interest rate, no down payment and limited closing costs. While the VA does not issue the loans, it does issue a certificate of eligibility required to apply for a VA loan.
Private Mortgage Insurance (PMI)
Most lenders feel that borrowers who make low down payments (and therefore have little equity in the property) are more likely to default on a mortgage loan. As a result, they generally require you to purchase private mortgage insurance (PMI) if you are borrowing more than 80 percent of the value of the home you are purchasing. PMI guarantees that your lender will be paid if you default on your mortgage.
Tip: Some mortgages (e.g., VA loans) do not require PMI.
How much does PMI cost?
PMI premiums vary depending on the insurance company, but they are usually based on factors such as the type of mortgage loan, the loan amount, and the amount of down payment you are making.
Although PMI can be expensive, you may be unable to qualify for a mortgage without it. Contact us (link) to get exact costs based on your financing plans.
Can you cancel PMI?
If you are concerned about taking on PMI payments, keep in mind that you may not have to pay PMI forever. If you have a good payment history or equity in your home you can petition your lender to remove the PMI.