There are three main kinds of home loans, but several different financing options. Learn the basics here, and then explore the different financing options which may fit your situation best.
Category 1: Adjustable Rate Mortgages
Adjustable Rate Mortgages or (ARMs) are loans that have an interest rate that can vary during the loan’s term. ARMs have a fixed interest rate period at the beginning, usually 3, 5, 7, or 10 years, and then typically adjust yearly after the initial set period. The initial rate on an ARM is usually going to be lower than what is offered with a 30 yr fixed mortgage and can be to your advantage if you plan on being in your home with a timeline of 1 to 10 years.
Category 2: Fixed Rate Mortgages
The fixed rate mortgage is the most popular home financing type. Having an interest rate that never changes, it gives you stable and predictable monthly payments throughout the life of the loan. Fixed rate mortgages can be good for first time buyers and anyone on a budget who needs a set monthly repayment. If you refinance with a fixed rate mortgage you have the security of knowing the exact amount you will repay each month without changing your monthly amount owed. Fixed rate mortgage loans are important if you plan on staying in the home for a period longer than 5 to 7 years.
The traditional fixed rate mortgages have monthly principal and interest payments that never change during the life of the fixed rate mortgage. Fixed rate mortgages are available in terms ranging from 10 to 30 years and can usually be paid off at any time without penalty. This type of mortgage is structured, or “amortized” so that it will be completely paid off by the end of the loan term.
Category 3: Hybrid – Combination Rate Mortgages
Hybrid loans combine features of both adjustable and fixed-rate mortgages. It may start with a fixed-rate for a certain length of time, and then later convert to an adjustable-rate mortgage. You need to ask how much the rate may increase after the conversion, as some hybrid loans do not have interest rate caps for the first adjustment period.
Other hybrid loans may start with a fixed interest rate for several years, and then change to another (usually higher) fixed interest rate for the remainder of loan. A lower introductory interest rate for a hybrid loan vs. a traditional fixed rate mortgage makes this type of loan appealing to the homeowner who wants the stability of a fixed-rate, but only plans to stay in their property for a short time.