Choosing the Right Type of Mortgage for You

We’ve covered a lot of different mortgage types up to this point. But how do you choose the best one for your situation? Here are some questions that will help you decide.

1. How much do you have for a down payment?

If you can afford a 20-percent down payment on a house, you’re probably better off using a conventional loan. You’ll avoid mortgage insurance if you go that route (it’s only required on loans that make up more than 80 percent of the purchase price).

If you can’t afford to put that much money down, you might want to consider the FHA program. You’ll pay extra insurance on the loan, but your down payment could be as low as 3.5 percent if you meet the requirements.

2. What’s your credit score?

To qualify for a conventional mortgage, you will probably need a FICO credit score of 640 or higher. But the government programs are a bit more flexible. Many home buyers with credit scores below 640 have to rely on the FHA loan. We can check your credit score to help you decide which type of mortgage to use. It will also help you negotiate with the lender (by better understanding your qualifications).

3. How long will you be in the house?

You’ll have an easier time choosing between the fixed-rate and adjustable loan by thinking about your long-term plans. The longer you plan to stay in the home, the more you should lean toward the fixed-rate mortgage. But there are certain scenarios where it makes sense to use an ARM.

Here’s an example from my own experience. When I was in the military, my wife and I bought a home in Maryland. We knew were would only be there for three to four years, at the most. We purchased the house because home prices were appreciating in the area, so it was a good investment (and better than living in an apartment).

We used an ARM loan to get a lower interest rate. We sold the home at the end of the tour, before the mortgage started to adjust. So we saved money during our stay, and we got out of the loan before the rate went up. This is an example of using the right type of mortgage for your situation.

Some people use an adjustable loan even when they plan to stay in the home for a long time. The logic is that they can enjoy having a lower rate for the first few years, and then refinance the loan before the first adjustment period. This makes sense on paper. But what if you can’t refinance? A lot of things can prevent you from refinancing — not enough equity, bad credit score, etc. So there’s no guarantee you’ll be able to refinance down the road.