4 Main Types of Home Loans

Last Updated on September 19, 2024 by Luke Feldbrugge

Before you study up on the types of home loans available, we always recommend determining how much house you can afford first. Once you know what you can afford to pay for a house, then you can focus on which loan type is best for you. This mortgage calculator is also a great tool to estimate your monthly mortgage payment. If you know what you can afford, the following will cover the four main types of home loans: Conventional loan, FHA loan, VA loan and USDA loans. Chances are you qualify for more than one type so spend a little time getting to know the pros and cons of each.

# 1: Conventional Mortgage Loan

Conventional loans are the most popular home loan because they are less restrictive, there are a fewer number of required fees, and fewer terms to qualify. Conventional home loans are not backed by the federal government like the other loan types we will cover. Instead, conventional loans follow guidelines set by two private agencies, Freddie Mac and Fannie Mae.

Benefits of a Conventional Loan:
– Home buyers will typically receive a lower interest rate due to the credit score and down payment minimums.
– Unlike an FHA loan and USDA loan, you do not pay any upfront funding fees.
– If your down payment is 20% or more, you will not pay Private Mortgage Insurance (PMI).

Disadvantages of a Conventional Loan:
– Generally requires a credit score of 620 or higher.
– A conventional loan typically requires a minimum 10% down payment. Some lenders will require a minimum of 20% down payment to qualify.*

*Some conventional loans are available with a down payment of only 3% (dependent on credit score and financial history)

Also to keep in mind, conventional loans typically come with 30-year or 15-year duration term. There are also two main types of conventional loans: adjustable-rate mortgage and a fixed-rate mortgage.

Adjustable-Rate Mortgage (ARM)

With an adjustable-rate mortgage (ARM), the interest rate you pay will change after a certain period of time. Initially, your interest rate will remain the same for 3-10 years, although it will vary between lenders. This initial interest rate is referred to as the “fixed-rate period.” The “fixed-rate period” interest rate for an adjustable-rate mortgage is almost always lower than fixed-rate mortgage interest rates. This makes adjustable-rate mortgages attractive to buyers who don’t plan to stay in their house for the long-term.

After the “fixed-rate period” ends your interest rate will adjust based on the current market interest rate. This means your interest rate could increase, or go down, based on the overall financial market. Either way, the rate will continue to adjust based on a schedule predetermined in your loan agreement.

This is why ARMs present a risk to buyers and make budgeting difficult. Increased regulations following the housing crisis made most adjustable-rate mortgages come with a cap on how high your interest rate can increase in a given year.

Fixed-Rate Mortgage

With a fixed-rate mortgage, your interest rate will stay the same over the life of the loan. This makes it much easier to plan your monthly budget. Most people choose a fixed-rate mortgage. However, if you don’t plan on being in your home long term, an ARM might be a better option.

#2: FHA Loan

Federal Housing Administration (FHA) loans help increase homeownership in America by reducing down payment amount and credit score requirements. Mortgage Insurance Premiums (MIP) and the Upfront Funding Fee make the FHA loan available to home buyers with a lower credit score or who have less money to use for a down payment. FHA loans are popular with many first-time home buyers for these reasons.

Benefits of an FHA Loan:
– Home buyers with a credit score of 580 or higher can qualify for an FHA loan.
– If home buyers have a credit score of 500-579 they may still qualify for an FHA loan if they are able to put down at least 10% as a down payment.
– Home buyers can put down as little as 3.5% for a down payment.

Disadvantages of an FHA Loan:
– Upfront Funding Fee (2.25 percent of the total financed amount) paid when you close on the loan.
– All FHA loans must include Mortgage Insurance Premiums (MIP) for the life of the loan. The current rate for MIP is 0.85% and this payment is typically rolled into your monthly mortgage payments. MIP protects the mortgage lender in case you are unable to pay the loan back. This insurance is a big reason why home buyers with lower credit scores and less cash to put down for a down payment still have the ability to purchase a house.
– Generally, an FHA loan will cost a home buyer more money over the term of the loan versus a conventional loan, VA loan or USDA loan due to the higher interest rate and MIP costs.

#3: VA Loan

Of all the types of home loans, VA loans are designed exclusively for active and former military members and their families. Backed by the U.S. Department of Veterans Affairs, these loans offer great advantages to those who are serving, or who have served in the U.S. Armed Forces. In addition to the benefits provided by a VA loan, our military and veteran heroes can also receive the savings offered by Homes for Heroes.

To get a VA loan, you will need to show your lender a Certificate of Eligibility (COE). The primary criteria to qualify is you must have served in the US military for 90 days of active duty during war time, or 181 days of active duty during peace-time, or you are a surviving spouse of a military member who has also not remarried.

Benefits of a VA Loan:
– No down payment required as long as the sale price doesn’t exceed the appraised value.
– No Private Mortgage Insurance (PMI) premiums.
– Limited closing cost charges (closing costs may be covered by the seller).
– Interest rates are consistently lower than conventional loans and FHA loans.
– Lender cannot charge a penalty fee if the VA loan is paid off early.
– You do not need to be a first-time home buyer and you can re-use the VA loan for future home purchases.
– Veterans Affairs may provide some assistance if you run into difficulty making mortgage payments.

Disadvantages of a VA Loan:
– You must meet VA loan requirements to qualify.
– VA charges a funding fee to cover operating costs. This fee is usually rolled into the home purchase price.
– Lender may have additional requirements borrower must meet to take out a VA loan. Because the VA only guarantees 25% of a loan, lenders will typically have additional requirements. Be sure to discuss any additional requirements with your lender.

#4: USDA Loan

Although they’re named after the U.S. Department of Agriculture, USDA loans are not solely for farmers. USDA loans are intended for rural development. According to the USDA, 97% of the United States territory is defined as “rural”. Even many small towns and suburbs of metropolitan areas qualify as rural.

USDA loans are available for households and/or properties located in designated rural areas that meet all of the eligibility requirements:

• Home buyer must meet income-eligibility. The USDA loan is intended to make homeownership a reality for low to moderate income families in rural areas. The USDA’s low to moderate income guidelines vary by state.
• Home buyer must personally occupy the dwelling as their primary residence.
• Home buyer must be a U.S. Citizen, U.S. non-citizen national or Qualified Alien.
• Must have the legal capacity to incur the loan obligation.
• Must not have been suspended or debarred from participation in federal programs.
• Demonstrate the willingness to meet credit obligations in a timely manner.

Like the VA Loan, there are great benefits if you qualify for a USDA loan. There are also some fees to know about:

Benefits of USDA Loans:
– There is a no down payment option available.
– Offers competitive interest rates.
– Flexible credit guidelines with no minimum credit score. But, most lenders prefer a credit score of 640 or higher. This will vary by lender.
– Available in common fixed-rate terms like 30-year and 15-year loans.

Disadvantages of USDA Loans:
– There is an Upfront Funding Fee (1% of the total finance amount) paid when you close on the loan.
– There is an annual fee, which is 0.35% of the loan and it’s typically rolled into your monthly mortgage payments.
– Must meet USDA loan requirements to qualify.

No matter what type of home loan you choose, Homes for Heroes can save you money on your next home purchase. A hero working in the healthcare, law enforcement, military, firefighter, EMS, or teaching professions are eligible. Sign up with no obligation and you’ll be automatically matched with a real estate and mortgage specialist in your area. Heroes who use our specialists to buy a home save an average of $3,000 in the process. It’s our way to say thank you for your service.