Time spent shopping for a mortgage is time well spent. Before you rule out
one loan or another, give some thought to your particular needs and wishes.
Pre-qualifying before house hunting puts you ahead of the game. You already know
the standard of mortgages for which you qualify. The message is simple: Shop for
a loan, not a lender. Hunt for the best loan - interest rate, points, processing
costs, etc. Don't pay much attention to who's originating the loan or where it
First, you should review the major kinds of mortgages you may encounter. This
list doesn't explain them all, but it does contain those you will most likely
Fixed-Rate Mortgage (FRM)
This is the standard mortgage model. It is the oldest and most easily understood
type of mortgage. Its primary attraction is that the interest rate and the
amount of payment remain fixed for the life of the loan, typically either 15 or
30 years. However, if rates fall, the holder cannot benefit from the new, lower
rate except by refinancing.
Adjustable-Rate Mortgage (ARM)
With this kind of mortgage, the interest rate you pay rises and falls along with
other rates charged throughout the economy. Therefore, you, the borrower, assume
the risk of rising rates, and you stand to benefit should rates fall.
An essential question to ask about an ARM is whether there are limits on how
much your rate can be raised, both at each review and over the whole term of the
loan. Without limits, known as "caps," you'll have no way to predict
how much your rate (and thus your monthly payments) might change.
FRM and ARM represent the primary options available to home buyers today. The
convertible mortgage represents something of a compromise between the two. It is
designed for those who want the advantages of the ARM, but also want to limit
the risk of rising rates. Under this arrangement, the buyer starts out with an
ARM, but has the option of converting to a FRM at specified points during the
loan term. You may want to ask the lender these questions: When can you convert?
How often can you consider the option? Are there any up-front fees involved?
Will you have to pay more for an ARM with the conversion feature than for an ARM
without it? Are there additional fees due if and when you decide to convert?
Find out the lender's conversion rate.
Graduated Payment Mortgage (GPM)
A fixed-rate GPM starts out with low payments, usually below that of a
fixed-rate and possibly that of an ARM, but rise gradually (usually over five to
ten years), then level off for the remaining years of the loan.
Growing-Equity Mortgage (GEM)
This option is designed for borrowers who want to pay off their mortgage as soon
as possible. Therefore, the interest rate remains fixed, but the amount of the
monthly payment increases according to a prearranged schedule, with the higher
payments going to reduce the principal balance. This mortgage can be appealing
to someone who is expecting regular income growth and wants to build equity
Like the GEM, the fifteen-year mortgage enables borrowers to repay their loan
more quickly, which means they build equity faster and pay less interest over
the life of the mortgage.
Another option for people who want to repay their loans sooner is the biweekly
mortgage. Instead of making a single mortgage payment each month, borrowers who
choose this option make two equal payments monthly.
Federal Housing Administration Insured Loans (FHA)
Should one fail to pay, FHA insures mortgage loans made by approved lending
institutions. The FHA insures a variety of mortgages, including FRMs, ARMs, GEMs
and GPMs. Down payments are low - 5 percent or less. The FHA doesn't set the
interest rate on loans it insures, so you'll need to shop around for the best
The FHA limits the amount it will insure to whichever is less: 95 percent of
the local average home price or 75 percent of the loan limit set by the Federal
Home Loan Mortgage Corporation, a large buyer and reseller of mortgages.
Veterans Administration Guaranteed Loans (VA)
VA loans have most of the advantages of FHA loans, and then some, but they also
have eligibility restrictions. They are available only to veterans of the armed
services, those currently in the service and their spouses. VA loans are
typically half a percent or more below market rates, and they can be obtained
with no money down.