There are three general categories of mortgages, which include conventional loans, loans insured or guaranteed by a government agency, and alternative financing.

A.       Conventional Financing

The word "conventional" describes loans that are not insured or guaranteed by a federal agency, such as the Department of Housing and Urban Development, the Federal Housing Administration, or the Veterans Administration.

The most common types of conventional loans that are available to consumers include the following:

     1.       Fixed-rate mortgages: This traditional "tried and true" mortgage option is a loan with a constant interest rate and level, equal payments during a set period of time – most commonly, 30 years. The biggest selling point of fixed-rate loans is predictability and they are particularly suited to people with steady incomes. These loans also are available in other terms, such as 15 years, 20 years or even 40 years.

     2.       Adjustable-rate mortgages (ARMs): As the name implies, the interest rate on an adjustable-rate mortgage changes throughout the term of the loan to stay current with present interest rates. ARMs are most popular when rates are relatively high and appear to be dropping and when the difference between the ARM and the fixed-rate is greater than 2 to 3 percent. However, it is hard to predict what interest rates will do one, or five, or ten years in the future. Therefore, you should not choose an ARM because you believe rates will act a certain way in the future unless you are sure that you can afford the loan even if your predictions about what will happen with interest rates are incorrect.

To make a useful comparison of an ARM rate, consider the index upon which the rate is based, the margin or spread between that index and the rate paid, and the intervals at which the rate and payments are adjusted. Different lenders offer variations in the initial term of their ARM plans, such as the points paid or discounted initial rates.

Note: Always look at the index plus the margin when comparing ARMs. The larger the margin, the less likely the rate you pay will go down, even if the interest rates drop.

     3.       Jumbo loans: Mortgages are called "jumbo" when they exceed the maximum limit set by the Federal National Mortgage Association (FNMA, or "Fannie Mae") and the Federal Home Loan Mortgage Corp. (FHLMC, or "Freddie Mac"), the largest national investors in mortgages. Because of the greater risk to the lender by the higher-than-average loan amount, some lenders charge slightly higher interest rates for loans in the jumbo category. The limit set by FNMA is currently $417,500 for most areas and can adjust each year.

     4.       Balloon mortgages: Balloon mortgages are fixed-rate loans for which your monthly payments are not large enough to pay the loan in full and which require you to make a large lump sum payment at the end of the balloon period. Although payments are based on a longer term, the mortgage must be paid in full with a balloon payment, usually in five to seven years. Many borrowers with balloon loans refinance the loan at the time the balloon payment is due to avoid having to make such a large one-time payment. The advantage is that interest rates may be below current market rates. You should carefully consider whether you want a loan with a balloon payment. If property values have gone down, you have lost your job, or have incurred other expenses that have changed your creditworthiness it may be difficult for you to refinance your loan. In addition, frequent refinancings can cost you money.

     5.       Fixed/Adjustable mortgage: A fixed/adjustable rate loan is a loan that is fixed for an initial period, typically 2, 3, 5, 7, or 10 years. The initial fixed interest rate may be low, but when the loan re-sets to an adjustable rate loan, the monthly payments may increase significantly. You should carefully consider whether you will be able to make the higher payments before you decide to obtain a fixed/adjustable mortgage. Refinancing may not be an option if credit standards change or the value of your property goes down.

     6.       Interest-only: Interest-only loans allow the borrower to pay only the accrued interest for a specified period of time, typically 10 years, after which the borrower’s monthly payments will increase to include both principal and interest. Choosing an interest-only mortgage will usually make the monthly payments considerably lower than those on a comparable fixed-rate loan. In addition, an interest only loan may increase tax savings during the early years of the loan (although the total amount of tax deductible interest will not change over the life of the loan). As discussed above, after the interest only period ends, the monthly payment adjusts over the remaining term of the loan term to cover principal and interest for the remaining term. In addition, borrowers usually may make optional principal payments at any time, which would lower their monthly interest-only payment.

Interest-only loans have risks that other loans do not have. Here is some additional information to help you understand if an interest-only loan is right for you: In addition, you should consider the following when deciding whether to obtain an interest-only loan:

• Your monthly payment will not reduce the amount you owe. An interest-only mortgage allows to your pay only the interest on the money you borrowed for a set period during the first years of the loan. This is called the "interest-only period." At the end of the interest-only period, you will owe the same amount that you did at the start of your loan unless you make additional payments to reduce the amount you owe.
• You may owe more than your house is worth. If you make only the interest-only payments, your loan balance will not decrease. If the value of your home declines, you may owe more than your house is worth. If this happens, it may be difficult to refinance your loan. If you try to sell your home, the amount you owe on your mortgage may be more than the sales price of your home. You will have to pay more money to your lender or to other parties when your pay off your loan.
• Your monthly payment will increase and you may face "payment shock." No matter what type of interest-only loan you have, your monthly payment amount will change at the end of the interest-only period. Your payment will be higher than your initial payments unless you have made additional payments to reduce the amount you owe. Your monthly payment will be higher, because:
  • You will have to start paying back principal as well as interest.
  • On adjustable-rate interest-only loans, your interest rate may go up.
    • On some adjustable-rate interest-only loans, your payment amount may change during the interest-only period because of the interest rate has changed.
• Interest-only loans and prepayment penalties:
  • Interest-only loans with a prepayment penalty generally have a lower interest rate and/or lower closing costs than loans without a prepayment penalty. However, if you want to pay off your loan during the period the penalty is in effect, the prepayment penalty may be high. This could make it harder for you to refinance or sell your property.
  • If you make a partial prepayment during the interest-only period, your monthly payment during the rest of the interest-only period will be less. If you make a partial prepayment during the period when your payments consist of both principal and interest, the amount of your monthly payment will not decrease. However, you will pay off your loan early.
• Ask your loan officer or mortgage broker:
  • What will my loan payments be after the interest-only period?
  • What will the payments be if interest rates increase? (If you are considering an adjustable-rate interest-only loan.)
  
  

     7.       Graduated payment mortgage: A graduated payment mortgage, often referred to as a GPM, is a mortgage with low initial monthly payments, which gradually increase over a specified timeframe. With a graduated payment mortgage, the borrower starts off by making the lowest monthly payments allowed. The payments are less than the amount of interest. The unpaid interest, called negative amortization, is added to the principal amount of the loan. Over a period of time, typically 5 to 15 years, the monthly payments increase every year by a predetermined percentage.

Because the monthly mortgage payments of a GPM increase over time, it requires borrowers to predict their future earning potential and how much they are able to pay in the future. Borrowers who know their incomes will increase in the coming years may be good candidates for a graduated payment mortgage. The graduated payment mortgage also offers no surprises for borrowers. All factors, including the amounts the payments will increase by and at what specific times, are drawn out and scheduled.

While the GPM lets borrowers save at the present time by paying low monthly installments, borrowers end up paying more interest in the long run. This is because the initial low monthly payments are not enough to pay the mortgage interest that accrues each month. The amount in unpaid interest, called negative amortization, is added onto the principal amount of the mortgage. Since the amount of the monthly mortgage interest owed is determined by the principal amount, the interest grows as the principal grows. Because of this negative amortization, it may not be in the best interest of the borrower to sell his or her home in the first few years since the amount owed may be more than what the home is worth.

     8.       Payment option adjustable-rate mortgage (POA): A payment option ARM loan is an adjustable rate mortgage that at certain times of the loan will permit you to make one of several possible payments. Generally, you will pay more for this flexibility in comparison to other types of mortgages. Furthermore, POA mortgages have risks that other loans do not have.

Here's some additional information to help you understand if a Payment Option ARM loan is right for you: In addition, you should consider the following when deciding whether to obtain a POA loan:

• You will have payment choices. At least during the first few years of the loan, you will typically have several payment options. This is called the "option period." The monthly payment options may include:
  • A payment of principal and interest.This payment may be based on a 15-, 30-, or 40-year payment schedule. If you want your loan balance to go down every month, you must make a payment of principal and interest.
  • An interest-only payment.This payment will not reduce the amount you own on the loan, but neither will the amount of principal you owe increase.
  • A minimum payment.This payment may be less than the amount of interest due that month and does not reduce the amount you owe. If you make the minimum monthly payment, the unpaid interest will be added to your loan balance. Your loan balance will increase. This is called "negative amortization." If you only make the minimum monthly payment each month and you do not make additional payments of principal, you will owe more later than your did at the time you obtained the loan.
• You may face "payment shock."The option period may end earlier than scheduled if the amount you owe grows beyond a pre-determined percentage of your original loan amount, which occurs when you make only the minimum payments. It is likely that your new minimum monthly payment will be much higher than the previous monthly payment. Your monthly payment will be higher because:
  • You will have to start paying back principal as well as interest.
  • You will owe more than you did at the start of your loan because unpaid interest has been added to the amount you owe.
  • Interest rates may have increased.
• You may owe more than your house is worth.If you make only the minimum payments on your Payment Option ARM, your loan balance will increase. If the value of your home stays the same or declines, you may owe more than your house is worth. If this happens, it may be difficult to refinance your loan. If you try to sell your home, the amount you owe on your mortgage may be more than the sales price of your home. You will have to pay more money to your lender or to other parties when your pay off your loan.
• Ask your loan officer or mortgage broker:
  • What could the monthly payments on the Payment Option ARM loan be when I must start paying back the principal?
  • How much will the monthly payments change if the interest rate goes up?
  • When can the monthly payment amount change?
  • How high can the loan balance go if I only make the minimum payments on the loan?

     9.       Growing equity mortgage:This is a fixed-rate mortgage that rises yearly until the mortgage is paid off. The additional payment from the payment hike is applied directly to the principal, so the mortgage is paid off early. The mortgage loan is scheduled to end in 30 years, but typically is paid off in less than 15 years.

     10.       Temporary buy-down: The monthly payment is reduced by a temporary interest rate deduction. Money is advanced by an individual (most often the seller or builder) to reduce the interest rate for a period of time.

     11.       Bi-weekly mortgage: The mortgage is paid every two weeks, making 26 (or 27) payments a year. In comparison with a monthly payment, the total interest paid on the loan will be reduced, allowing the principal to be paid off sooner (about 15 years).