Loan Programs and Mortgage Types

Loan Programs

Construction/Remodeling
One loan. One process. One closing. These programs simplify the process for borrowers looking to build or improve their home in one mortgage loan.

No income verified loans
The clearest path to home ownership. No income programs, including stated income, no ratio, and no income/no asset, can help turn complicated financial situations into smooth closings.

Zero Down
100% financing programs are available and may reduce borrower's initial cash investment to less than $1,000.

Second Homes
Vacation home financing available with programs only requiring 10% down.

Investment Property
Aggressive programs for investors with only 10% down payment.

3% down loans
Minimal amount for down payment. Seller allowed to pay closing costs.

Fixed Rate Mortgages

The most common type of mortgage program where your monthly payments for interest and principal never change. Property taxes and homeowners insurance may increase, but generally your monthly payments will be very stable.

Fixed-rate mortgages are available for 30 years, 20 years, 15 years and even 10 years. There are also "bi-weekly" mortgages, which shorten the loan by calling for half the monthly payment every two weeks.

Fixed rate fully amortizing loans have two distinct features. First, the interest rate remains fixed for the life of the loan. Secondly, the payments remain level for the life of the loan and are structured to repay the loan at the end of the loan term. The most common fixed rate loans are 15 year and 30 year mortgages.

Adjustable Rate Mortgages

These loans generally begin with an interest rate that is 2-3 percent below a comparable fixed rate mortgage, and could allow you to buy a more expensive home. However, the interest rate changes at specified intervals (for example, every year) depending on changing market conditions; if interest rates go up, your monthly mortgage payment will go up, too. If rates go down, your mortgage payment will drop also.

There are also mortgages that combine aspects of fixed and adjustable rate mortgages (ARMs) - starting at a low fixed-rate for seven to ten years, for example, then adjusting to market conditions.

Index - The index of an ARM is the financial instrument that the loan is "tied" to, or adjusted to. The most common indices, or, indexes are the 1-Year Treasury Security, LIBOR (London Interbank Offered Rate), Prime, 6-Month Certificate of Deposit (CD) and the 11th District Cost of Funds (COFI). Each of these indices move up or down based on conditions of the financial markets.

Margin - The margin is one of the most important aspects of ARMs because it is added to the index to determine the interest rate that you pay. The margin added to the index is known as the fully indexed rate. As an example if the current index value is 5.50% and your loan has a margin of 2.5%, your fully indexed rate is 8.00%. Margins on loans range from 1.75% to 3.5% depending on the index and the amount financed in relation to the property value.

Interim Caps - All adjustable rate loans carry interim caps. Many ARMs have interest rate caps of six-months or a year. There are loans that have interest rate caps of three years. Interest rate caps are beneficial in rising interest rate markets, but can also keep your interest rate higher than the fully indexed rate if rates are falling rapidly.

Payment Caps - Some loans have payment caps instead of interest rate caps. These loans reduce payment shock in a rising interest rate market, but can also lead to deferred interest or "negative amortization". These loans generally cap your annual payment increases to 7.5% of the previous payment.

Lifetime Caps - Almost all ARMs have a maximum interest rate or lifetime interest rate cap. The lifetime cap varies from company to company and loan to loan. Loans with low lifetime caps usually have higher margins, and the reverse is also true. Those loans that carry low margins often have higher lifetime caps.

ARMs with different indexes are available for both purchases and refinances. Choosing an ARM with an index that reacts quickly lets you take full advantage of falling interest rates. An index that lags behind the market lets you take advantage of lower rates after market rates have started to adjust upward. Some of the ARMs available include

6-Month Certificate of Deposit (CD) ARM
1-Year Treasury Spot ARM
6-Month Treasury Average ARM
12-Month Treasury Average ARM

Balloon Mortgages

Balloon loans are short term mortgages that have some features of a fixed rate mortgage. The loans provide a level payment feature during the term of the loan, but as opposed to the 30 year fixed rate mortgage, balloon loans do not fully amortize over the original term. Balloon loans can have many types of maturities, but most balloons that are first mortgages have a term of 5 to 7 years.

At the end of the loan term there is still a remaining principal loan balance and the mortgage company generally requires that the loan be paid in full, which can be accomplished by refinancing. Many companies have other options such as a conversion feature at the end of the term. For example, the loan may convert to a 30 year fixed loan at the thirty year market rate plus 3/8 of a percentage point. Your conversion can be guaranteed based on certain criteria such as having made your last 24 payments on time. The balloon mortgage program with the conversion option is often called a 7/23 Convertible or 5/25 Convertible.

Buydown Options

The most common buydown is the 2-1 buydown. In the past, for a buyer to secure a 2-1 buydown they would pay 3 points above current market points in order to pay a below market interest rate during the first two years of the loan. At the end of the two years they would then pay the old market rate for the remaining term.

In today's market, mortgage companies have designed variations of the old buydowns rather than charge higher points to the buyer in the beginning they increase the note rate to cover their yields in the later years.

Another common buydown is the 3-2-1 buydown which works much in the same ways as the 2-1 buydown, with the exception of the starting interest rate being 3% below the note rate. Another variation is the flex-fixed buydown programs that increase at six month interval rather than annual intervals.

COFI ARM Cost of Funds Index

The funds used as a basis for the calculation of the 11th District Cost of Funds index (COFI) are the liabilities at the District savings institutions: money on deposit at the institutions, money borrowed from a Federal Home Loan Bank (known as advances) and all other money borrowed. The interest paid on these types of funds is the cost of these funds.

The ratio of the dollar amount paid in interest during the month to the average dollar amount of the funds for that month constitutes the weighted average cost of funds ratio for that month.

The average cost of funds is said to be weighted because the three kinds of funds and their costs are added together before a ratio is computed rather than calculating averages individually for the three sources and using a simple average of the three ratios. This gives the greatest weight to the interest paid on deposits, and explains the delayed reaction of the index to rising fixed-rate mortgages.

Few people who use and follow the 11th District Cost of Funds understand exactly how it is calculated, what it represents, how it moves and what factors affect it.

Graduated Payment Mortgage (GPM)

The GPM is another alternative to the conventional adjustable rate mortgage.

Unlike an ARM, GPMs have a fixed note rate and payment schedule. With a GPM the payments are usually fixed for one year at a time. Each year for five years the payments graduate at 7.5% - 12.5% of the previous years payment.

GPMs are available in 30 year and 15 year amortization, and for both conforming and jumbo loans. With the graduated payments and a fixed note rate, GPMs have scheduled negative amortization of approximately 10% - 12% of the loan amount depending on the note rate.

Federal Housing Administration (FHA) Mortgage

This government loan is great for first time home-buyers with many benefits not available through conventional loans. Loan limits in Oregon range between $132,000 - $175,000 depending on the county.

Insurance - FHA requires a mortgage insurance premium (MIP) for its home-buying programs. An up-front premium of 1.50% of the loan amount is paid at closing and can be financed into the mortgage amount. In addition, there is a monthly MIP amount included in the PITI of .50%. Condos do not require up front MIP - only monthly MIP. The mortgage insurance premium paid on a FHA loan is always significantly higher than on a conventional program.

Streamline Refinancing for FHA Mortgages - FHA has permitted streamline refinances on insured mortgages since the early 1980's. The streamline refers only to the amount of documentation and underwriting that needs to be performed by the mortgage company, and does not mean that there are no costs involved in the transaction.

The basic requirements of a streamline refinance are:

The mortgage to be refinanced must already be FHA insured.
The mortgage to be refinanced should be current (not delinquent).
The refinance is to result in a lowering of the borrower's monthly principal and interest payments.
No cash may be taken out on mortgages refinanced using the streamline refinance process.

Down Payment Gifts - One of the key benefits to the FHA program is that the down payment can be 100% gift funds. Verification of the source of gift money is not required. However, it is necessary that the gift funds be deposited in the borrower's bank or savings account, or in an escrow account, prior to underwriting approval. Proof of deposit is required.

Gift donors are restricted primarily to a relative of the borrower. They can also be certain organizations, such as a labor union or charitable organization. Many mortgage companies also participate in the Bridal Registry Account which allows couples who are getting married to open up a bridal registry savings account with participating Federal Housing Administration approved banks nationwide. Family and friends can then deposit their cash wedding gifts directly into the interest-bearing account.

Bankruptcy and Foreclosure - In the event of a foreclosure, the borrower has three years from the date the claim was paid until he/she is eligible for another FHA loan, unless the foreclosure was the result of extenuating circumstances beyond the borrower's control and the borrower has since established good credit. Chapter 7 bankruptcy requires the borrower to wait at least two years from the date of discharge. Chapter 13 bankruptcy requires the borrower to have been paying on the bankruptcy for at least one year, performance must have been satisfactory and the borrower must also receive court approval to enter into the mortgage transaction.

Refunds on FHA Loans - If you have ever paid off a home loan backed by FHA, you may have money owed to you. Former FHA borrowers who think they might be due a refund can call a toll free number, 800-697-6967, or write HUD at P.O. Box 23669, Washington DC 20026-3699. Or you can look for your name with the HUD Refund Search Form

Additional FHA Programs include:

Single Family Mortgage Insurance
Single Family Rehab Mortgage Program
Property Improvement Loan Insurance (Title I)
Energy Efficient Mortgages
HUD Reverse Mortgage Program

Veterans Administration (VA) Mortgage

The VA loan is the best zero down loan in the marketplace for those eligible.

5 Steps to a VA Loan

Apply for a Certificate of Eligibility.
A veteran who doesn't have a certificate can obtain one easily by completing VA Form 26-1880, Request for a Certificate of Eligibility for VA Home Loan Benefits and submitting it to one of the Eligibility Centers with copies of your most recent discharge or separation papers covering active military duty since September 16, 1940, which show active duty dates and type of discharge.
Decide on a home the buyer wants to buy and sign a purchase agreement
Order an appraisal from VA. (Usually this is done by the lender.)
Most VA regional offices offer a "speed-up" telephone appraisal system. Call the local VA office for details.
Apply to a mortgage lender for the loan.
While the appraisal is being done, the lender (mortgage company, savings and loan, bank, etc.) can be gathering credit and income information. If the lender is authorized by VA to do automatic processing, upon receipt of the VA or LAPP appraised value determination, the loan can be approved and closed without waiting for VA's review of the credit application. For loans that must first be approved by VA, the lender will send the application to the local VA office, which will notify the lender of its decision.
Close the loan and the buyer moves in.

Who is Eligible for a VA Loan?

Veterans who served on active duty and were discharged under conditions other than dishonorable, during World War II and later periods are eligible for VA loan benefits. World War II (September 16, 1940 to July 25, 1947), Korean conflict (June 27, 1950 to January 31, 1955), and Vietnam era (August 5, 1964 to May 7, 1975) veterans must have at least 90 days' service. Veterans with service only during peacetime periods and active duty military personnel must have had more than 180 days' active service. Veterans of enlisted service which began after September 7, 1980, or officers with service beginning after October 16, 1981, must in most cases have served at least 2 years.

Persian Gulf Conflict. Basically, reservists and National Guard members who were activated on or after August 2, 1990, served at least 90 days and were discharged honorably are eligible. VA regional office personnel may assist with eligibility questions.

Members of the Selected Reserve, including National Guard, who are not otherwise eligible and who have completed 6 years of service and have been honorably discharged or have completed 6 years of service and are still serving may be eligible. The expanded eligibility for Reserves and National Guard individuals will expire September 30, 2003. Contact the local VA office to find out what is needed to establish eligibility. Reservists will pay a slightly higher funding fee than regular veterans will.

Financing Benefits

More than 29 million veterans and service personnel are eligible for VA financing. Even though many veterans have already used their loan benefits, it may be possible for them to buy homes again with VA financing using remaining or restored loan entitlement.

Before arranging for a new mortgage to finance a home purchase, veterans should consider some of the advantages of VA home loans
Most important consideration, no down payment is required in most cases.
Loan maximum may be up to 100 percent of the VA-established reasonable value of the property. Due to secondary market requirements, however, loans generally may not exceed $203,000.
No monthly mortgage insurance premium to pay.
Limitation on buyer's closing costs.
Thirty year loans with a choice of repayment plans:
1. Traditional fixed payment (constant principal and interest; increases or decreases may be expected in property taxes and homeowner's insurance coverage); and
2. Graduated Payment Mortgage--GPM (low initial payments which gradually rise to a level payment starting in the sixth year)
For most loans for new houses, construction is inspected at appropriate stages to ensure compliance with the approved plans, and a 1-year warranty is required from the builder that the house is built in conformity with the approved plans and specifications. In those cases where the builder provides an acceptable 10-year warranty plan, only a final inspection may be required.
An assumable mortgage, subject to VA approval of the assumer's credit.
Right to prepay loan without penalty.
VA performs personal loan servicing and offers financial counseling to help veterans avoid losing their homes during temporary financial difficulties.

VA Loan Uses

To buy a home, including townhouse or condominium unit in a VA-approved project.
To build a home.
To simultaneously purchase and improve a home.
To improve a home by installing energy-related features such as solar or heating/cooling systems, water heaters, insulation, weather-stripping/ caulking, storm windows/doors or other energy efficient improvements approved by the lender and VA. These features may be added with the purchase of an existing dwelling or by refinancing a home owned and occupied by the veteran. A loan can be increased up to $3,000 based on documented costs or up to $6,000 if the increase in the mortgage payment is offset by the expected reduction in utility costs. A refinancing loan may not exceed 90 percent of the appraised value plus the costs of the improvements. Check with a lender or VA for details.
To refinance an existing home loan up to 90 percent of the VA-established reasonable value or to refinance an existing VA loan to reduce the interest rate.
To buy a manufactured home and/or lot.

Obtaining a VA Loan

VA Appraisal- Certificate of Reasonable Value - The CRV (certificate of reasonable value) is based on an appraiser's estimate of the value of the property to be purchased. Because the loan amount may not exceed the CRV, the first step in getting a VA loan is usually to request an appraisal.

Application - The application process for VA financing is no different from any other type of loan. In fact, the VA application form is the same as that used for HUD/FHA and conventional loans.

Restoration of VA Loan Entitlement - Veterans who had a VA loan before may still have "remaining entitlement" to use for another VA loan. The current amount of entitlement available to each eligible veteran is $36,000. Most mortgage companies require that a combination of the guaranty entitlement and any cash down payment must equal at least 25 percent of the reasonable value or sales price of the property, whichever is less.

Veterans can have previously-used entitlement "restored" to purchase another home with a VA loan if: The property purchased with the prior VA loan has been sold and the loan paid in full, or a qualified veteran-transferee (buyer) agrees to assume the VA loan and substitute his or her entitlement for the same amount of entitlement originally used by the veteran seller.

VA Loan Costs

A basic funding fee of 2.0 percent must be paid to VA by all but certain exempt veterans. A down payment of 5 percent or more will reduce the fee to 1.5 percent and a 10 percent down payment will reduce it to 1.25 percent.

A funding fee of 2.75 percent must be paid by all eligible Reserve/National Guard individuals. A down payment of 5 percent or more will reduce the fee to 2.25 percent and a 10 percent down payment will reduce it to 2.0 percent.

The funding fee for loans to refinance an existing VA home loan with a new VA home loan to lower the existing interest rate is 0.5 percent.

Veterans who are using entitlement for a second or subsequent time who do not make a down payment of at least 5 percent are charged a funding fee of 3 percent.

NOTE: For all VA home loans, the funding fee may be paid in cash or it may be included in the loan.

In addition, reasonable closing costs may be charged by the mortgage company. These costs may not be included in the loan. The following items may be paid by the veteran purchaser, the seller, or shared. Closing costs may vary among companies and also throughout the nation because of differing local laws and customs.

VA loan costs may include VA appraisal, credit report, loan origination fee (usually 1 percent of the loan), discount points, title search and title insurance, recording fees, state and/or local transfer taxes, if applicable, survey.

No commissions, brokerage fees or "buyer broker" fees may be charged to the veteran buyer.

Choosing A Mortgage Program

There isn't a single or simple answer to this question. The right type of mortgage for you depends on many different factors:

Your current financial picture.
How you expect your finances to change.
How long you intend to keep your house.
How comfortable you are with your mortgage payment changing.

The best way to find the "right" answer is to discuss your finances, your plans and financial prospects, and your preferences with a mortgage professional.

Take the Quiz

This educational series is created to allow Realtors to obtain continuing education. The articles are intended for general informational purposes and are not to be construed as legal advice or legal opinion on any specific facts or circumstances. You are advised to consult with an attorney concerning any questions about your rights or responsibilities in any specific situation.