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How to Choose a Mortgage

Choosing mortgage

Mortgages come in a variety of shapes and sizes, so be prepared to face many options when you apply for a loan and choose a mortgage. The standard, 30-year, fixedrate loan is still the most common, but adjustable rate mortgages (known as ARMs) and 15-year ones have become very popular.

There also are mortgages especially for active military and veterans, and for those buying modestly-priced homes. Then there are more exotic loans, like the 7-23, which is prevalent in today’s marketplace.

It’s easy to see why the 30-year, fixed-rate loan is still the most popular mortgage. It has a fixed interest rate for 30 years, so monthly principal and interest payments remain the same over the life of the loan. Plus, spreading the loan out over so many years reduces the monthly payment as much as possible.

If you choose adjustable rate mortgages, the interest rate will fluctuate based on an economic indicator. The initial rate for the first year is usually at least one point below the rate for fixed-rate mortgages, making these loans attractive to people who want to have a low monthly payment for their first year in a new home.

As the rate changes each year, the monthly payment rises or falls. ARMS have yearly caps, so the interest rate cannot move up more than one or two points a year, plus a lifetime cap, keeping the total increase at five or six percentage points.

With interest rates low these days, people tend to choose 15-year mortgages. These loans cut the term in half, giving you a higher monthly payment but allowing you to build up equity quickly and pay the loan off sooner. And, over the course of the loan, you pay substantially less interest on a 15-year mortgage than on a 30-year one.

Loans guaranteed by the Veterans Administration are available only to active and retired military. With their zero downpayment feature and easier qualifying guidelines, VA loans are the most attractive in the marketplace; if you qualify for one, take advantage of it.

Federal Housing Administration backed loans are also appealing. They offer a lower downpayment than conventional loans (slightly less than 5 percent) and share VA’s easier qualifying rules. One catch: FHA loans are geared toward modest buyers, so there’s a cap on the price of a house that can be purchased with an FHA loan. Conventional buyers can take advantage of a smorgasbord of mortgages to fit their needs.

There is also the 7-23 loan. With this loan, the initial interest rate is slightly below market rate and remains the same for the first seven years, then switches to the market rate for the remaining 23 years. The attraction of this loan is that many people move within seven years, so they can take advantage of the low, stable rate and then sell before having to worry about their monthly payment jumping because mortgage rates have risen.

The key to choosing a mortgage is to remember that you have more than one choice. Take the time to study your options and choose the loan that best fits your financial situation.

Mortgage Refinancing Tips

- The old rule was it pays to refinance if the new interest rate is at least 2 percent below the old mortgage’s interest rate. But today it often pays to refinance if you will save just 1 percent interest since many lenders have cut or eliminated loan fees and included loan charges in the mortgage interest rate. Another refinance advantage is taking cash out for other investments. But not all lenders allow this alternative, especially on rental property.

- Borrow where you get the best service and competitive loan terms. Chasing the lowest interest rate is often futile because low interest rate lenders frequently use dirty tricks like high loan fees and pure-profit unnecessary “garbage fees,” such as for documentation, underwriting, and loan processing. Whenever possible, deal with a direct lender who has loan approval authority. Watch out for “bait and switch” lenders who promise excellent loan terms but, at the last minute, change the quoted loan terms. If the lender can’t deliver the promised loan terms, that’s a good time to seek another lender. An advantage of mortgage brokers is they can shop your loan application among many lenders. This is a special benefit if you have less than perfect qualifications. But a broker disadvantage is they don’t have loan approval authority, although the best ones know what terms their lenders will approve.

- If you plan to keep your home more than five years, you might as well chose a fixed-rate mortgage. Your monthly mortgage payment can never increase (or decrease). However, consider choosing the adjustable rate mortgages with fixed interest rates for the first three, five or seven years. Ask lots of questions about adjustables, especially what index is used. If you only plan to keep your home a few years, an adjustable rate can save interest over a fixed-rate mortgage if it has adequate safeguards.

- The interest savings can be huge if you can afford the higher monthly payments on a 15-year mortgage. For example. If you aren’t certain you can handle the increased payments on a 15-year mortgage, which often offers a slightly lower interest rate, taking the 30-year mortgage but paying it off like a 15-year mortgage is usually the safest alternative.

- Mortgage lenders are brilliant when it comes to extracting various fees from borrowers. In addition to a loan fee, usually called points (one point equals one percent of the amount borrowed), mortgage refinance includes title insurance, escrow or attorney fees, appraisal fees and recording fees. These are legitimate costs to expect. However, watch out for lenders charging various pure-profit “garbage fees” with creative names such as application, underwriting, loan processing, loan administration, and warehouse fees. Since smart borrowers now protest these fees, many lenders have switched to so-called “no fee” mortgages where a slightly higher interest rate includes all the fees. Finally, since loan origination fees on refinanced mortgages must be amortized over the life of the mortgage and are not tax deductible in the first year, as are home acquisition fees, many refinancing borrowers select zerofee alternatives.

However, if you have any undeducted loan fees from a previously-refinanced mortgage which is being paid off in full, you can fully deduct them in the year you pay off that mortgage, perhaps by refinancing again or selling the property.

There are many pitfalls involved in choosing a mortgage so be wise and study the aforementioned guidelines on how to choose a mortgage.

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