TypesofMortgageLoans

Types of mortgage loans	Key features	Mortgagors	Advantages	Disadvantages
Insured Mortgages 1
Conventional Mortgages2
Fixed-Rate Mortgages3
Adjustable-Rate Mortgages4
Graduated-Payment Mortgages5
Growing-Equity Mortgages6
Shared-Appreciation Mortgages7
Equity Participation Mortgages8
Second Mortgages9
Reverse Annuity Mortgages10

1. Insured Mortgage-

2. Conventional Mortgage-

3. Fixed-Rate Mortgage-

4. Adjustable-Rate Mortgage-

5. Graduated-Payment Mortgage-

6. Growing-Equity Mortgage-

7. Shared-Appreciation Mortgage-

8. Equity Participation Mortgage-

9. Second Mortgage-

10. Reverse Annuity Mortgage-

Types of Mortgage loans

1. Insured and Conventional Mortgages

Mortgages are classified as either insured or conventional.Insured mortgages are originated by banks or other mortgage lenders but are guaranteed by some institutions e. g. in the USA either the Federal Housing Administration (FHA) or the Veterans Administration (VA). Applicants for FHA and VA loans must meet certain qualifications, such as hav­ing served in the military or having income below a given level, and can borrow only up to a certain amount. The FHA or VA then guarantees the bank making the loans against any losses - that is, the agency guarantees that it will pay off the mortgage loan if the borrower defaults. One important advantage to a borrower who qualifies for an FHA or VA loan is that only a very low or zero down pay­ment is required.

Conventional mortgages are originated by the same sources as insured loans but are not guaranteed. Private mortgage companies now insure many conventional loans against default. Most lenders require the borrower to obtain pri­vate mortgage insurance on all loans with a loan-to-value ratio exceeding 80%.

2. Fixed- and Adjustable-Rate Mortgages

In standard mortgage contracts, borrowers agree to make regular payments on the principal and interest they owe to lenders. The interest rate significantly affects the size of this monthly payment. Infixed-rate mortgages, the interest rate and the monthly payment do not vary over the life of the mortgage.

The interest rate on adjustable-rate mortgages (ARMs) is tied to some mar­ket interest rate and therefore changes over time.

ARMs usually have limits, called caps, on how high (or low) the interest rate can move in one year and during the term of the loan. A typical ARM might tie the interest rate to the average Trea­sury bill rate plus 2%, with caps of 2% per year and 6% over the lifetime of the mortgage. Caps make ARMs more palatable to borrowers.

Borrowers tend to prefer fixed-rate loans to ARMs because ARMs may cause financial hardship if interest rates rise. However, fixed-rate borrowers do not bene­fit if rates fall unless they are willing to refinance their mortgage (pay it off by obtain­ing a new mortgage at a lower interest rate). The fact that individuals are risk-averse means that fear of hardship most often overwhelms anticipation of savings.

Lenders, by contrast, prefer ARMs because ARMs lessen interest-rate risk. The interest-rate risk is the risk that rising interest rates will cause the value of debt instruments to fall. The effect on the value of the debt is greatest when the debt has a long term to maturity. Since mortgages are usually long-term, their value is very sensitive to interest-rate movements. Lend­ing institutions can reduce the sensitivity of their portfolios by making ARMs instead of standard fixed-rate loans.

Seeing that lenders prefer ARMs and borrowers prefer fixed-rate mortgages, lenders must entice borrowers by offering lower initial interest rates on ARMs than on fixed-rate loans.

Graduated-Payment Mortgages (GPMs)

Graduated-Payment Mortgages (GPMs) Graduated-payment mortgages are use­ful for home buyers who expect their incomes to rise. The GPM has lower pay­ments in the first few years; then the payments rise. The early payments may not even be sufficient to cover the interest due, in which case the principal bal­ance increases. As time passes, the borrower expects income to increase so that the higher payment will not be a burden.

The advantage of the GPM is that borrowers will qualify for a larger loan than if they requested a conventional mortgage. This may help buyers purchase ade­quate housing now and avoid the need to move to more expensive homes as their family size increases. The disadvantage is that the payments escalate whether the borrower’s income does or not.