How to Choose the Right Mortgage Type that Saves You Money
There are four common mortgage types in the United States: Conventional loan, FHA loan, VA loan, and USDA loan.
Let's look at these loans in detail and find out which one is more suitable for you?
The conventional loan is a mortgage guaranteed by government-sponsored enterprises Fannie Mae and Freddie Mac. Most mortgages in the market are conventional loans.
The basic requirements of the conventional loan include:
Minimum credit score 620
Minimum down payment 3%
If the down payment is less than 20%, mortgage insurance is required. However, if your home equity is over 20%, you can cancel the mortgage insurance.
The debt to income ratio (DTI) of the lender must not exceed 45%. Specifically, the debts that the borrower has to repay each month, including mortgages, car loans, credit card repayments, etc., are divided by the monthly income, which must be less than 45%. If the borrower fails to meet this requirement, they can pay off a small portion of the debt in advance or pay a more down payment for the mortgage.
The conventional loan can meet the mortgage needs of most people. However, for people with low incomes or poor credit scores, what should they do if they need a mortgage?
Therefore, the government launched the Federal Housing Administration loan (FHA loan).
FHA loan is a mortgage guaranteed by the Federal Housing Administration. FHA loan requirements for borrowers include:
Minimum credit score 580
Minimum down payment 3.5%. If the down payment reaches 10%, the minimum credit score can be as low as 500.
The debt to income ratio (DTI) of the borrower must not exceed 43%
Must be owner-occupied
More importantly, FHA loan requires mortgage insurance premium (MIP). MIP generally has to be paid continuously for 11 years or even the life of the loan. MIP includes an upfront fee, typically 1.75% of the mortgage. This upfront fee can roll into the loan amount. MIP also requires an annual fee, ranging from 0.x% to 1.x%. Overall, the cost of the FHA loan is greater than that of the conventional loan.
Will the interest rate of the FHA loan be higher than conventional loan?
There is not much difference.
However, the cost of the FHA loan is higher. Therefore, the conventional loan is more preferred as long as the borrower meets its requirements.
A VA loan is a mortgage offered through a U.S. Department of Veterans Affairs program.
VA loan offers 0 down payment, but it has a funding fee. The funding fee is determined based on your down payment. The more down payment you pay, the less your funding fee will be.
USDA loan is a mortgage for low-income people in rural areas.
The house must be in an area designated by the Ministry of Agriculture, and the income of the borrower should not exceed the required income limit. USDA loan can also provide 0 down payment.
The above describes the common loan types in the mortgage market. Because they are guaranteed by government agencies or government-sponsored companies, interest rates are relatively low.
What if the borrower does not meet any of the loan requirements described above?
Some mortgage lenders also issue their portfolio loans, and the requirements for borrowers are relatively loose.
These loans are called Non-QM loans.
After the subprime mortgage crisis in 2008, the government stepped up its requirements for the mortgage industry and eliminated many mortgage products, such as 40-years loan and IO loan, etc. Therefore, many people who can afford to pay their mortgages cannot be eligible for loans guaranteed by the government.
Non-QM loan fills this gap. Typical Non-QM loans include the loan that does not require income checks, loan to foreigners, and so on. The non-QM loan is perfect for small business owners, house flippers, or Air BnB investors.
However, The interest rate of the Non-QM loan is high, generally 5-10%. Some people will buy a house with a Non-QM loan and then refinance after meeting the conventional loan requirements to obtain a lower interest rate.
There are many types of home loans in the market nowadays.
If your mortgage broker says you are not qualified for a mortgage, please don't be discouraged. Try asking around a few more lenders, and maybe you can find a mortgage that suits you.