Updated: Oct 26, 2022
Most first-time homebuyers in the US use a mortgage to finance their home purchase. In fact, only 30 percent of U.S. home purchases in 2021 were paid entirely with cash. But understanding how mortgages work and what type will work best for you can be challenging.
What’s a Mortgage?
Put simply, a mortgage is a type of loan used to finance your home purchase.
When you obtain a mortgage loan from a lender, they cover the cost of the home upfront to make up the difference between the sale price and your down payment. You must then pay the lender back in small increments over the loan’s term—usually 15 or 30 years.
Your monthly mortgage payment doesn’t just go toward the loan’s principal—you’re paying for other expenses as well.
The Anatomy of a Conventional Mortgage Payment
Can Your Mortgage Payment Change?
How consistent your payment remains over the loan’s term is primarily determined by the mortgage rate you choose.
If you get a fixed-rate mortgage, then the loan term and interest rate will remain consistent unless you refinance. This means that you may only see payment fluctuations due to changes in property tax rates, homeowners insurance rates, and PMI.
If you get an adjustable-rate mortgage, you may see more substantial fluctuations after the first few years of your loan’s term, as the interest rate changes with the markets (typically every six months to a year).
You should carefully review the loan terms to see how far up the interest rate can go, since this can substantially change the cost of your mortgage over time.
Conventional loans follow standards put in place by Fannie Mae and Freddie Mac, the federally backed mortgage companies that set underwriting guidelines for home loans. Conventional loans are lower cost but have a higher barrier of entry than some other kinds of loans
Because jumbo loans exceed FHFA borrowing limits, they’re a great option for buyers searching for a home in a high-price market. Since these loans are high risk for the lender, they have more stringent qualifications than other types of loans.
FHA loans are insured by the U.S. Federal Housing Administration. They’re designed to help buyers who don’t qualify for a conventional or jumbo loan, so their requirements are more lenient.
VA loans are backed by the U.S. Department of Veterans Affairs and are intended for members of the military, veterans, and their surviving spouses that meet the minimum active service requirement detailed on the VA website.
Down Payment: Minimum 3% down
Down Payment: 5–20% down, depending on the lender
Down Payment: Minimum 3.5% down
Down Payment: No minimum
PMI: Applied if down payment is less than 20%
PMI: Applied if down payment is less than 20%
PMI: None, but buyers must pay an Upfront Mortgage Insurance Premium (MIP) at closing and an Annual MIP for either 11 years or throughout the loan’s lifetime
PMI: None, but must pay a funding fee at closing, or roll into the loan
Credit Score: 620 minimum
Credit Score: 680 minimum, with some lenders requiring 720 or more
Credit Score: 580 minimum for maximum financing, but can be 500 to access loans that finance 90% of the home’s value
Credit Score: No minimum
DTI Ratio: 50% or lower
DTI Ratio: Varies, but generally 40% or lower
DTI Ratio: 43% or lower
DTI Ratio: 41% or lower, but may be waived if other aspects of borrowing history are strong
Conventional loans follow borrowing limits set by the Federal Housing Finance Agency (FHFA) standards. You can find the most recent limits on the Federal Housing Finance Agency website
Jumbo loan borrowing limits vary by lender.
The borrowing limits for FHA loans follow FHFA standards.
The borrowing limits for VA loans follow FHFA standards.
No matter which mortgage type sounds best at first glance, you must evaluate your full financial picture before looking at houses or pursuing financing. That means understanding your income, credit score, debt levels, and—most importantly—how a home will further your overall financial goals.
Get in touch with our expert advisors to see how they help you navigate the landscape.
DUNHILL FINANCIAL, LLC IS A REGISTERED INVESTMENT ADVISER. INFORMATION PRESENTED IS FOR EDUCATIONAL PURPOSES ONLY AND DOES NOT INTEND TO MAKE AN OFFER OR SOLICITATION FOR THE SALE OR PURCHASE OF ANY SPECIFIC SECURITIES, INVESTMENTS, OR INVESTMENT STRATEGIES. INVESTMENTS INVOLVE RISK AND UNLESS OTHERWISE STATED, ARE NOT GUARANTEED. BE SURE TO FIRST CONSULT WITH A QUALIFIED FINANCIAL ADVISER AND/OR TAX PROFESSIONAL BEFORE IMPLEMENTING ANY STRATEGY DISCUSSED HEREIN.
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