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10 Types of Mortgage Loans Homebuyers Should Know About

Finding the right home is just one part of the equation when buying a home. Choosing the right type of mortgage loan to finance the biggest financial transaction of your life is just as critical.

With so many options to choose from, it can be overwhelming, especially for first-time homebuyers, to know which home loan best suits their needs and gives them the best shot at homeownership. Consider the following 10 types of mortgage loans to help in your decision.

1. Conventional loans

A conventional loan is any mortgage that’s not backed by the federal government. Conventional loans have higher minimum credit score requirements than other loan types — typically 620 — and are harder to qualify for than government-backed mortgages. Borrowers who make a down payment of less than 20% are typically required to pay private mortgage insurance (PMI) on this type of mortgage loan.

A popular type of conventional mortgage is a conforming loan. It adheres to Fannie Mae and Freddie Mac guidelines and has loan limits, which often change annually to adjust for increases in home values. The 2020 conforming loan limit for most U.S. counties is $510,400 for a single-family home.

Key conventional loan features:

  • Requires a minimum 620 credit score
  • Requires borrowers to provide in-depth income, employment, credit, asset and debt documentation for approval
  • Typically requires PMI for a down payment of less than 20%

Ideal for: Borrowers with a steady income and employment history, strong credit and at least a 3% down payment.

2. Fixed-rate mortgages

A fixed-rate mortgage is exactly what it sounds like — a home loan with a fixed mortgage interest rate. The rate included on your closing disclosure is the same rate you’ll have for the length of your repayment term, unless you refinance your mortgage.

Two common fixed-rate options are 15- and 30-year mortgages.

Key fixed-rate mortgage features:

  • Includes a fixed interest rate that won’t change over the life of the loan
  • Usually comes in repayment terms of five-year increments

Ideal for: Borrowers who prefer stable principal and interest payments on their mortgage.

3. Adjustable-rate mortgages

An adjustable-rate mortgage (ARM) is a type of mortgage loan that has a variable interest rate. Instead of staying fixed, it fluctuates over the repayment term. One of the popular adjustable-rate mortgage options is the 5/1 ARM.

This type of home loan is a hybrid of a fixed-rate and adjustable-rate mortgage. The mortgage rate is fixed for five years, and then adjusts annually for the remainder of the loan term. ARMs usually start off with lower rates than fixed-rate loans, but can go as high as two percentage points or more above the fixed rate when it adjusts for the first time.

Key adjustable-rate mortgage features:

  • Includes a variable rate, which can change based on market conditions
  • Typically begins with a mortgage rate that is lower than fixed-rate loans
  • Comes with a lifetime adjustment cap, which often means the variable rate can’t jump by more than five percentage points over the life of the loan

Ideal for: Borrowers who plan to move or refinance before the fixed-rate period on their loan ends.

4. High-balance loans

A high-balance loan is another type of conventional loan. In a nutshell, it’s a conforming loan with a balance that exceeds the standard conforming loan limit, but meets the loan limit for high-cost areas in states like California, Florida and New York.

The high-balance loan limit for single-family homes in 2020 is $765,600, which is 150% of the standard loan limit mentioned above.

Key high-balance loan features:

  • Adheres to Fannie Mae and Freddie Mac guidelines
  • Allows borrowers to borrow above standard loan limits in high-cost counties

Ideal for: Borrowers who want a conventional loan in an area where home prices are higher than average.

5. Jumbo mortgages

A jumbo mortgage is a larger conventional loan, typically used to buy a luxury home, that doesn’t conform to Fannie Mae and Freddie Mac guidelines. Jumbo loan amounts exceed conforming loan limits and often require a large down payment, such as 20%.

In recent years, jumbo mortgage rates have been lower on average when compared with conforming conventional loans.

Key jumbo mortgage features:

  • Includes stricter credit score and down payment requirements than conforming loans
  • Typically has a wider range of eligible property types

Ideal for: Borrowers who need a mortgage that exceeds conforming loan limits.

6. FHA loans

The Federal Housing Administration (FHA) backs these types of mortgage loans, which are reserved for borrowers with credit blemishes and limited down payment funds. You can qualify for an FHA loan with a 580 credit score and a minimum 3.5% down payment. If your score is between 500 and 579, you’ll need a 10% down payment.

FHA loans have mandatory mortgage insurance premiums. If you put down less than 10%, you’ll pay FHA mortgage insurance for the life of your loan — unless you refinance after building at least 20% equity. Otherwise, you’ll only pay it for 11 years.

Key FHA loan features:

  • Requires just a 580 credit score to qualify for the minimum down payment amount
  • Includes a mortgage insurance premium requirement for most borrowers
  • Comes with the ability to buy a multiunit property up to four units as a primary residence with just 3.5% down (and at least a 580 score)

Ideal for: Borrowers with lower credit scores and access to minimal savings for a down payment.

7. VA loans

Military service members, veterans and eligible spouses may qualify for a government mortgage loan backed by the U.S. Department of Veterans Affairs (VA).

VA loans typically don’t include a down payment requirement, but lenders may expect to see a minimum 620 credit score. Additionally, as of 2020, the VA got rid of loan limits for borrowers who have never used their VA loan benefits or have paid their existing VA loan in full.

Key VA loan features:

  • Provides opportunities for members of the military, veterans and eligible spouses to buy a home
  • Doesn’t require a minimum down payment in most cases

Ideal for: Qualified borrowers who need a no-down-payment loan option.

8. USDA loans

The U.S. Department of Agriculture (USDA) insures USDA loans provided to low- and moderate-income buyers looking to purchase a home in a designated rural area. No down payment or mortgage insurance is required for these types of home loans, but there are income limitations.

Key USDA loan features:

  • Caters to borrowers interested in buying a home in a USDA-designated rural area
  • Doesn’t require a down payment or mortgage insurance

Ideal for: Borrowers with a modest income looking for a 0% down payment loan.

9. Second mortgages

A second mortgage is a different type of home loan that allows you to borrow against the equity you’ve built in your home over time. Similar to a first mortgage, or the loan you borrow to buy a home, a second mortgage is secured by your home. However, a second mortgage takes a subordinate position to a first mortgage, which means it’s repaid second after a first mortgage in a foreclosure sale.

Both home equity loans and home equity lines of credit (HELOCs) are types of second mortgages. A home equity loan is a lump-sum amount. It typically comes with a fixed interest rate and is repaid in fixed installments over a set term. A HELOC is a revolving credit line with a variable rate that works similarly to a credit card. The funds can be used, repaid and reused as long as access to the credit line is open.

Key second mortgage features:

  • Allows borrowers to tap their home equity for any purpose, including debt consolidation or home improvement
  • Includes lump sum and credit line options
  • Uses a borrower’s home as collateral, just as a first mortgage

Ideal for: Borrowers who want to use their existing equity to fund other financial goals.

10. Reverse mortgages

Homeowners aged 62 and older may qualify for a reverse mortgage, a type of mortgage loan in which your lender makes payments to you — from your available equity — in a lump sum or monthly.

The home equity conversion mortgage (HECM) is the most common type of reverse mortgage. It’s insured by the FHA and comes with several upfront and ongoing costs. There are many options for repaying a reverse mortgage; they include selling your home or having your heir take out a new, forward mortgage to cover what’s owed after your passing.

Key reverse mortgage features:

  • Doesn’t require payments until the home is sold, or the borrower (or eligible surviving non-borrowing spouse) moves or passes away
  • Requires borrowers to have at least 50% equity in their home
  • Requires borrowers (or surviving spouses) to continue to maintain the home, live in it as a primary residence and pay property taxes and homeowners insurance

Ideal for: Older homeowners (62 and older) with a substantial amount of equity who need supplemental income in retirement.

 

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