What Are the Different Types of Home Loans? Know Before You Buy

What Are the Different Types of Home Loans When It’s Time To Buy?

With so many types of home loans out there, how do you know what will work best for your situation?  Whether you’re thinking about a mortgage purchase in the future, or you’re ready to buy now.  This guide will help you narrow things down to help you understand what are the different types of home loans available when it’s time to buy a home.

country house porch

Main Types of Home Loans

There are many different types of home loans, but for the average borrower, they usually fall into the following categories:

  • Fixed rate home loan
  • Adjustable rate home loan
  • Interest only home loan

Fixed Rate Home Loan

As the name suggests, a fixed rate loan does not fluctuate throughout the length of the loan.

Several factors will go into determining your rate, but it is influenced by the current national interest rate.

This home loan is one of the most common in the United States. It’s a great option for borrowers who are looking for a predictable, low-risk option.

For these reasons, it’s also one of the best types of home loans for first-time homeowners. Likewise, these loans usually pay over a comfortable term of 30 years or 15 years.

No matter how much the national rate changes during the term of your loan, the interest rate on this type of loan will remain the same.

These loans are less complex compared to others, and you can easily get an idea of what your payments will be using a simple mortgage calculator.

 

what are the different types of home loans

Adjustable Rate Home Loan

Adjustable rate home loans, also referred to as “ARMs,” do not have a fixed interest rate throughout the term of the loan.

ARM loans involve more risk than fixed rate loans, but they also have their benefits.

While the interest rate on these loans does fluctuate, there is typically a limit on the amount it can change during the term of the loan.

These loans also have a lower initial interest rate, which makes them an attractive option for borrowers who plan on keeping their home only a short period of time, or who hope to refinance in the near future.

Another benefit of this loan is that it allows you enough time to improve your credit, so then you can refinance and get a better, more predictable loan.

Adjustable rates generally match the following terms:

  • 3/1 ARM
  • 5/1 ARM
  • 7/1 ARM
  • 10/1 ARM

In other words, these loans have fixed interest rates for either three, five, seven, or 10 years.  Then the rate adjusts annually for the remainder of its 30-year amortization.

man monitoring rates on tablet

Interest Only Home Loan

As you can probably guess, interest only home loans allow borrowers to only pay interest on the loan for a certain period of time.

These loans have a similar structure to adjustable rate loans because the interest-only period ranges from the first five, seven, or 10 years. After that, the monthly payments can go up significantly.

Interest only home loans involve a much higher risk, making them a popular option for wealthy borrowers with irregular income.

There are countless types of homes loans that can be customized for every borrower’s unique situation. Which loan has worked best for you? Feel free to comment on what are the different types of home loans you have used and share your experience!

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6 Comments

  1. Hi Patrick,

    It’s good to make everybody aware of the types of mortgage loan products available in the market place. Even though we have to pay interest on a mortgage loan, the house price normally will appreciate. The rate of appreciation generally is more than the interest we pay. As result, over the long run the house buyer will benefit from the capital appreciation.

    Well done. Thank you.

    Sukiman

    • Thanks Sukiman,

      Very astute comments regarding the appreciation in our homes versus the interest we pay. In addition, I might also add that there are tax benefits available to mortgage borrowers that enhance the value in a real estate investment. Very good comment. Thanks for sharing.

      Credit Squared

  2. Hello Patrick, 

    I’ve had the fixed rate mortgage and the ARM.

    When I was 20, I bought my first house. At the time, the interest rates were not so good, so even with good credit (like 700), I had a 5.8% interest rate.

    After a few years, the interest rates went down and some mortgage companies were offering veterans ARMs with very good interest rates.

    I refinanced to a 3/1 ARM for 2.2%! Now, it’s been 5 years and my interest rate is supposed to adjust possibly to 4.2%, but I close on my mortgage refinance next Monday with a 3.9% interest rate on a fixed rate loan for 20 years.

    I saved myself $40,000 by cutting my loan from 26 years down to 20 years. Great article and thanks for letting me share my great news!

    • Hi Tiffany,

      An amazing mortgage refinance success story.

      You definitely made the right decision by refinancing into a fixed rate loan and reducing the term.  Rates are headed up, so your timing is impeccable.

      Those are big savings and a perfect example of how consumers can save money on their mortgage if they understand what’s happening in the mortgage interest rate market.

      It also helps to be familiar with the different fixed rate and ARM products available in the market place.  Choosing the right one can save thousands, as you so clearly demonstrated.

      Thanks for sharing.   

  3. As simple as it seems, it never is as simple!

    I really have never taken the time to learn about anything other then a fixed rate loan.

    It’s scary to think about rates adjusting and not knowing what that payment will be in 3 or 5 years.

    I understand there is rate risk. However, you make a great point and one I had never considered.

    If you can’t get a good rate at the beginning it gives you a good opportunity to improve your situation later.

    Great insight!

    • It’s never simple and if you have gone through a rate negotiation and subsequently closed on that loan you have first hand knowledge.

      Fixed rate loans are easy to understand, but they may not be the best option for you.  If you plan to live in your house for 5-7 years, it may be better to go to go with a 5/1 or 7/1 ARM. 

      You get a lower entry rate and it doesn’t adjust until years later.  The only caveat is that you have to know how long you are going to stay in you house.

      Best of luck.

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