What are 4 types of mortgage loans?


This post may contain affiliate links

I think there is a misconception around certain terms in the financial industry (like “investments” or “mortgage”) where people think those simple terms encompass all there is to know about those financial products. For example, someone says, “I want to buy a home and I need a mortgage.” And a lot of people think, “okay, great. I'll go get …a mortgage.” But a mortgage is just the name of a financial product. Similar to when you say “I'm going to buy a car,” you're actually going to get a type of car that's a specific make and model. When learning, “what are the 4 types of mortgage loans”, you know you need a mortgage but you probably don't know the “make and the model” you're going to need. It's not a one-size-fits-all is what I'm saying.

So, when it comes to financing your dream home, understanding the various types of mortgage loans available is crucial. In this blog post, we will delve into the four main categories of mortgage loans: conventional (conforming and non-conforming), government-backed loans, adjustable-rate mortgages (ARMs), and fixed-rate mortgages. By the end of this article, you'll have a clear understanding of each type and be better equipped to make an informed decision.

What are 4 types of mortgage loans?

There are 4 broad types of mortgage loans: conventional (the most common), government-backed loans, adjustable rate, and fixed-rate. It's worth noting here that some people also consider a jumbo loan it's own type, but I think it falls as a subcategory of a conventional loan because its opposite is the conforming loan.

It's also important to note here that each type of mortgage loan has sub-categories depending on eligibility criteria and how the loan itself is structured.

Mortgage Type #1: Conventional Loans

Conventional loans are the most common type of mortgage loan. Like the bread-and-butter of the home loan industry. They're not insured or guaranteed by the government, and so most who qualify for this mortgage loan type will need good credit and a 20% down payment to secure the mortgage. Conventional loans can be further classified into two subcategories: conforming and non-conforming, based on how much borrowers need to buy the home.

Conforming Loans

Conforming loans adhere to the guidelines set by government-sponsored enterprises (GSEs) such as Fannie Mae and Freddie Mac. These loans have maximum loan limits and must meet specific criteria, including credit score, debt-to-income ratio, and down payment requirements. Conforming loans offer competitive interest rates and are ideal for borrowers with good credit and stable income.

Non-Conforming Loans (Jumbo loans!)

Non-conforming loans, also known as jumbo loans, exceed the loan limits set by GSEs and these vary by area. Conventional loan limits are different in pricer metro areas than in rural towns, for example. Jumbo loans are often used for high-value properties or borrowers with unique financial situations. Non-conforming loans typically have stricter qualification criteria and higher interest rates due to the increased risk for lenders.

Mortgage Type #2: Government-Backed Loans

Government-backed loans are insured or guaranteed by federal agencies, providing lenders with an added layer of security, and homeowners a break on lending criteria. These types of mortgage loans are designed to assist specific groups of borrowers, including first-time homebuyers, veterans, and low-income individuals.

Federal Housing Administration (FHA) Loans

FHA loans are popular among first-time homebuyers due to their low down payment requirements and flexible credit score criteria. These loans are insured by the FHA, allowing lenders to offer more favorable terms to borrowers who may not qualify for conventional loans. (Here's how I used an FHA mortgage – via a 203k home renovation loan product – to buy my first home at age 26.)

Here's a post on the difference between FHA 203k and 203b, in case you're interested.

Other FHA resources

Veterans Affairs (VA) Loans

VA loans are exclusively available to eligible veterans, active-duty service members, and surviving spouses. These loans offer competitive interest rates, no down payment requirements (a 100% loan!), and limited closing costs. VA loans are guaranteed by the Department of Veterans Affairs, making homeownership more accessible for those who have served our country.

USDA Loans

Similar to a VA loan, but for farmers. Actually, you don't have to be a farmer, you just have to meet income requirements and buy a home in a qualifying rural area. However, because this loan type is backed by the Department of Agriculture, borrowers of a USDA loan can also get 100% financing. There's also something called an RHS loan (backed by the Rural Housing Service) to help low-income rural residents qualify for a mortgage. I wrote about it for Rocket Mortgage in an article here.

Mortgage Type #3: Adjustable-Rate Mortgages (ARMs)

Adjustable-rate mortgages, as the name suggests, have interest rates that can fluctuate over time. ARMs typically have an initial fixed-rate period, followed by periodic adjustments based on market conditions. While it may seem like a bonehead move to go for an adjustable-rate mortgage over a fixed rate (especially in the high interest-rate environment we're in now), but there are a few benefits to ARMs.

ARMs often offer lower initial interest rates compared to fixed-rate mortgages, making them attractive to borrowers who plan to sell or refinance before the rate adjustment period (this typically falls within the first five years or so). These loans are suitable for individuals who expect their income to increase or plan to relocate in the near future.

However, borrowers should carefully evaluate the potential risks associated with ARMs, such as the possibility of higher monthly payments when the interest rate adjusts. It's essential to understand the terms and conditions of the loan, and balloon payments, including the adjustment frequency, rate caps, and index used for rate adjustments.

Mortgage Type #4: Fixed-Rate Mortgages

Fixed-rate mortgages are the most traditional and popular type of mortgage loans. If a conventional loan is the bread, fixed-rate mortgages are the butter. So, all together you'd say, “I'm buying my house with a 30-year conventional, fixed-rate mortgage.” Like when you say, “I'm getting the turkey sandwich on rye, with cheese.” I kid.

With a fixed-rate mortgage, the interest rate remains constant throughout the loan term, providing borrowers with predictable monthly payments. It will never change unless you refinance to a lower rate (which you definitely should save money!) or move and need a new loan for your next home purchase.

Fixed-rate mortgages are sexy because they offer stability and peace of mind, as borrowers know exactly how much they need to pay each month. These loans are ideal for individuals who plan to stay in their homes for an extended period or prefer the security of a consistent payment schedule.

What are 4 types of mortgage loans? The TL: DR

What are the 4 types of mortgage loans? Conventional loans, government-backed loans, adjustable-rate mortgages, and fixed-rate mortgages. Each type has its unique features and benefits. By evaluating your financial situation, long-term goals, and risk tolerance, you can make an informed decision that aligns with your needs, potentially in a way that can make homeownership more affordable. Remember to consult with a mortgage professional to explore the options further and find the best mortgage loan for you.

Want to take your money management to the next level in 2024? Learn more about The Financial Best Life Blueprint, our digital product that comes with e-books, excel spreadsheets and more to help you take control of your finances, eliminate the overwhelm that comes with managing money, and achieve your money goals faster. FBL readers can get the Blueprint for just $5, by using code BESTLIFE. Click here to explore.