What is a Home Loan?
A home loan is a loan used to purchase or improve upon a property. Home loans can range from a mortgage for a single-family home to a blanket loan to buy several apartment buildings. For all types of real estate loans, you need to fill out this Uniform Application (Freddie Mac Form 65 & Fannie Mac 1003) to apply.
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Some loans, like FHA loans and VA loans, are backed by the federal government (by the Federal Housing Administration and the Department of Veteran Affairs). By backing these loans the government insures the loan, so if the borrower defaults on the loan, then the lender gets compensated by the government. This significantly lowers the risk to lenders, which allows the lenders to charge lower interest rates. Both FHA loans and VA loans can only be used on a primary residence, and both have some particular restrictions to them. However, if you are looking for finance for your primary residence and you do qualify for an FHA or VA loan you should definitely consider it. There are two types of rates that mortgages can have fixed rates or variable rates. When a loan has a variable rate, the interest rate is often given in relation to prime (as in prime +1%). This means that as the market cost for mortgages changes the interest rate on the loan changes to reflect that. Loans with fixed rates have an interest rate that’s agreed upon at the start of the loan, which remains the same throughout the term of the loan, regardless of what happens to the market for mortgages. Generally, loans with fixed rates are higher than loans with variable rates, because borrowers are paying for the added stability of a fixed rate. Larger mortgages tend to have slightly lower rates because the administrative costs of the loan represent a smaller percentage of the total loan. Borrowers with lower credit tend to have loans with higher rates to compensate for the risk of the borrower not being able to pay the loan back.
Credit requirements also vary greatly between types of loans. Since the government backs FHA loans, with the intention of increasing homeownership, they have among the lowest credit requirements; applicants are sometimes accepted with credit scores as low as 520. VA loans typically ask for a minimum credit score of 620. Conventional loans vary more depending on the lender and the financial climate the loan is being made in, but it is rare to see a conventional loan or a blanket loan given to someone with a credit score of less than 680. Generally speaking (with the exception of government-backed loans) the lower your credit rating is, the larger the down payment on your mortgage is going to be. With conventional loans, only borrowers with excellent credit can get a loan with less than a 20% down payment. Blanket loans are almost never given with down payments of less than 25% even among those with excellent credit.
The amortization period of a loan is the length of time it will take to repay the loan. By using the amortization period, APR (annual percentage rate) and the value of the loan, you can calculate the monthly payments of the loan. The longer the amortization period, the lower those monthly payments are going to be. However, longer amortization periods lead to higher total costs because there is more time for interest to accumulate. You’ll want to find a balance between monthly payments that put a strain on your budget, and an endless loan which bearly reduces the principal.
Some lenders offer an interest only option. This means that for the initial period following the loan your monthly payments are only equal to the interest charged to the loan. No loan remains interested only forever, as the lender needs to get their principal returned to them. Typically a loan will have a 5 or 10 year interest only period. While you’re paying only the interest, your payments will be much lower than if you were paying down the principal as well. It’s important to remember that you are just delaying paying down the principal; the monthly payments after the interest-only period are going to be higher than would be if they were spread equally throughout the entire duration of the loan and the total cost of the loan will be much higher. Interest only loans might be useful to borrowers who are on a budget in the short term but expect to have much higher incomes in the long term. If you don’t need the short term savings of an interest-only period, then it is probably wise to avoid it.
Home Equity Line of Credit
If you have an existing mortgage with a balance that is less significantly less than the value of your home, then it’s possible to get a line of credit using that equity (the difference between the value of the home and the amount owed) as collateral. Equity lines of credit have more flexibility in how they are spent than most mortgages. You can use these funds to renovate your home or use the funds to start a business. These loans are often used in lieu of getting a bridge loan. Since its a line of credit and not a loan you are only charged interest on the amount that you’ve used.
If you have an old loan at a significantly higher interest rate than you would be given today, it might be worth considering getting a mortgage to refinance the old loan. You will have to incur a second set of underwriting fees, so if the difference in the interest rates is only marginal, it may not be worth doing. Most banks also put a cap on how frequently you can refinance a home, so if it looks like interest rates will continue to drop it may be worthwhile waiting for them to bottom out before locking yourself into a new deal.
A bridge loan is a short-term real estate loan that is used to make the down payment on a new mortgage while another piece of real estate is waiting to be sold. They can either have a flat rate of a few percent of the loan to be paid on the closing of the home, or they can function as a traditional loan with an annual interest rate and a regular repayment schedule. To find out more about bridge loans please visit our Bridge Loans page.
A blanket loan is a loan that can be used on more than one property. Since these loans are more complicated and much larger, they tend to be difficult to qualify for. If you do qualify, you can have significant savings, due to lower interest and paying only one underwriting fee while acquiring several properties. Blanket loans have the added benefit of simplifying your finances, making payments easier to coordinate. To learn more check out our page on blanket loans. There are a ton of choices when it comes to home loans. If you want some help navigating these choices, talking to an expert is a great way to be informed on the best choice for your circumstances.