Introduction

Mortgages are loans that are used to purchase real estate and come in many different forms. The most common types are Conventional, FHA and VA. Other types are Second, Reverse and Balloon Mortgages. These loans often involve the use of Discount Points.

Conventional

The conventional loan is the most common type of mortgage used in the nation today. Conventional mortgages are loans between borrowers and lenders that are not insured or guaranteed by the government. Conventional mortgages are either privately insured through private mortgage insurance companies or not insured at all. Conventional loan guidelines typically require a minimum down payment of five percent on owner-occupied (non-rental) properties; higher for investment/rental properties. For mortgages that have a down payment of less than 20%, private mortgage insurance (PMI) is usually required. Most conventional mortgages have time frames of 15 to 30 years and may be either fixed-rate or adjustable.

Fixed rate mortgages mean that the interest is permanently "fixed" at the rate available when the mortgage was created. The interest rate never changes no matter what interest rates do later. Fixed rate loans provide a level principal and interest payment that a borrower can depend on and are especially attractive when rates are low.

Adjustable rate mortgages mean that during the first few years, the interest rate will be lower than a typical fixed rate loan but will increase (adjust) upward to rates that are prevalent at a later date. Adjustable rate mortgages are normally used only when the borrower cannot currently qualify for the normal fixed rate interest level, but anticipates a larger income in the near future. The risk for the borrower is if that extra income does not materialize or if other expenses occur later on that cause the adjusted rate to not be affordable.

FHA

FHA loans are insured by the Federal Housing Administration, which is a division of HUD. The program was created in 1934 to stimulate the housing market during the Depression. FHA loans are insured by the government against default, but the mortgages themselves are made by major private lenders. FHA loans are often available from the same lenders who offer conventional loans. FHA maximum loan amounts are limited, and the maximum loan amount varies among geographic regions. High cost housing markets will normally have a higher maximum loan amount than lower cost areas. FHA mortgages are usually on a fixed-rate mortgage with terms of up to 30 years. FHA can lend up to 97% of the home value, and can be refinanced any time without a pre-payment penalty, and without having to qualify all over again. FHA insurance makes it possible for private lenders to provide mortgages to lower income families without attaching the rates and fees that sub-prime lenders do. FHA-insured loans have become an important element in the proposed solutions to the subprime mortgage crisis, and an FHA Reform package is making its way through Congress this year (2007) and will probably be a reality by the time you read this. The new package will enable FHA to accept even lower down payments and credit scores than they do now.

VA

VA mortgage loans are loans insured by the Department of Veterans Affairs. The program was created in 1944 during World War 2 to assist returning military personnel in buying a home. VA mortgages are reserved for those who have served in the military or are currently in the military in active or reserve status. They are also available to qualified surviving spouses. VA loan guaranty is only for owner occupied properties, which can include homes, condominiums, townhomes, 2-4 family properties and manufactured homes, as long as it is owner occupied at least in part. By example, the applicant can obtain a mortgage for a duplex, live in one side and rent out the other side. VA mortgages offer the qualified veteran or active duty military person an opportunity to buy a home up to a specified amount with no down payment and do not require Private Mortgage Insurance (PMI). Like FHA mortgages, VA places a limit on the maximum mortgage amount. VA determines your eligibility and, if you are qualified, VA will issue you a certificate of eligibility to be used in applying for a loan.

Balloons

A Balloon mortgage is a loan that is usually a short-term fixed-rate loan with even monthly payments amortized over a stated term, but provides for a lump sum payment to be due at the end of a specified term. These loans can be used as either a first or second mortgage. The nature of balloons are that the principal is not paid off entirely during its term and the monthly payments are often lower than they would be in a fixed rate first mortgage. Balloons are often used as a type of Second mortgage, especially when a borrower is seeking the lowest possible monthly payment in the short run. These loans carry an inherent risk for the borrower because that large lump sum becomes due and payable at the end of the term, so these financing options should be used with extreme caution.

Reverse

Reverse mortgages are becoming popular in America. They were designed only a few years ago and were made to help people who have retired and stopped working, but still have to make monthly payments. They are a special type of financing that lets a homeowner convert the equity in his/her home into cash. Reverse mortgages can be relatively complex, and their use should be considered carefully by the borrower. While they have been around for a long time, but it wasn't until the early 1990s that they began earning respectability after the FHA began insuring reverse mortgages for repayment to lenders.

Second

These are used when a borrower needs additional financing to buy a home. Second mortgages are subordinate, meaning that in the event of default, the primary, or first lien would get paid off first, and then any funds remaining would be used to pay off any second liens. Second mortgages are also arranged for various purposes, such as financing home improvements, college tuition fees, debt consolidation or other emergency expenses. They are available as either fixed-rate loans, or adjustable-rate home equity lines of credit and are based on the market value of the home minus the balance of the first mortgage. Terms are typically shorter than the primary term and are commonly written at a higher rate of interest, due to the inherent risk of the loan. An advantage for the borrower is that the interest paid on a second mortgage is tax deductable, whereas payments for PMI are not.

Discount Points

Discount Points are used to buy your interest rate lower and are charged as a percentage of the loan amount. Discount points are entirely optional unless they are required for you to qualify for the loan payment, due to a lower than required income or higher than expected expenses. Discount points are paid in cash at closing and are typically charged to the seller. A common arrangement is that when discount points are charged, the seller will want to increase the price of the home to cover this expense. The result is that 80% or more of the discount point cost is actually financed by the buyer. Discount points are not to be confused with an origination or broker fee and are tax deductible only for the year in which they were paid.

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