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First Time Buyers: Types of Loans

There are many different types of loans, and all of them have pros and cons. Most first time buyers love the idea of a lower downpayment. Just remember that in life nothing comes for free. If there are certain benefits to certain types of loans, there are also probably certain drawbacks that aren't always highlighted.


Photo Credit @Precondo


So I'll do my best to go over different types of loans, but keep in mind I am not a mortgage lender or a mortgage broker. These products are constantly changing. Some smaller banks can offer you things bigger banks can't and vice versa. You really do have to shop around for your specific situation. This is just an overview so that you get a better idea of what you can ask for and what may be out there. It is not meant to be an end-all-be-all list. And, as always, please consult the appropriate legal and financial specialists.


So... here are some different types of loans and their general pros and cons:


FHA Loan


Pros:

  • They usually involve lower down-payments.

  • There is a limit (cap) on how much you can spend for property in a given area, thus eliminating certain properties from being eligible.

  • There are requirements to ensure the property is conveyed in safe condition to you, the consumer.

  • The government guarantees these loans so the lenders can be more flexible on who qualifies.

Cons:

  • Sellers sometimes avoid them because of the second inspection that is required.

  • Sellers sometimes refuse to make the repairs that are required by the FHA loan inspection.

  • They can take longer to close for these reasons and the fact that there is more oversight.

  • Applicants must meet the requirements. A bank cannot be flexible with them because they plan to resell the mortgage after you close to another bank.

  • You still have to pay PMI (property mortgage insurance) for anything less than 20% down.

  • You can only have one FHA loan at a time.


Photo by Jessica Radanavong on Unsplash


VA Loan


Pros:

  • You can get one with zero percent down.

  • They typically have lower interest rates.

  • They don't carry PMI.

  • Sometimes they can help reduce closing costs.

  • You can get multiple VA loans at a time

Cons:

  • Seller's are sometimes hesitant to accept them because they require a second inspection and sometimes repairs.

  • They can take longer than a conventional loan.

  • There are additional requirements for the specific house you choose. For example, if it needs a new roof, it most likely won't qualify.


203K Loan


Pros:

  • You can buy a property and get the money to renovate it, thus helping you to get a really good opportunity to build equity from the beginning.

  • You must used a licensed and insured contractor who gets the money in draws, thus preventing them from running away in the middle of the night with your money.

  • You can lock in one fixed rate. No need to refinance once the work is done, unless you want to.

Cons:

  • Total value must fall within the FHA limits for the area.

  • You start paying the full mortgage from the start even before the work is done.

  • You cannot do the work yourself to save money.

  • You generally still have to put 20% down on the total purchase price meaning what the anticipated ARV will be.


Conventional Loans

Pros:

  • Lowest interest rates generally if your credit score is high.

  • Pretty straightforward with the application process.

  • You have to put 20% down or pay PMI each month until you pay off 20% of the property.

Cons:

  • Bases the loan on your debt to income ratio (DTI), therefore your income and how much you earn becomes very important.

  • You have to put a full 20% down or pay PMI each month until you pay off 20% of the property.

  • It can be a lot of paperwork.

  • You have to lock your rate early on in the process to protect your rate. Until you do, the rate can fluctuate. It also can expire if you don't close within a certain amount of time. This can be stressful.


Second Home Mortgages

Pros:

  • You can put just 10% down to get into the property

  • You still get better rates than an investment property loan and you can put less down to start.

Cons

  • You will still have to pay PMI if you don't put a full 20% down.

  • To qualify for a loan, it is still based on your DTI ratio. So how much or how little you make is very important

  • You can only have one within a certain mile range (this varies for each bank). The idea is that this ensures it really is a second home, not you buying multiple investment properties.


Hard Money Loans

Pros:

  • It can be fast.

  • Your DTI ratio isn't necessarily needed

  • They can lend quickly

Cons:

  • It's expensive. There are more points to close and usually higher rates.

  • It is for a shorter timeframe. You will have to refinance out and/or pay it off in a significantly shorter term.


Private Money Loan

Pros:

  • You can set the terms you want and get a hell of a deal.

  • You don't have to have any of the qualifications a traditional bank would require (ie: technically your bank account can be zero to start if you find the right person to lend to you).

Cons:

  • It can be difficult to find someone and build the relationship enough, so they trust you enough to lend to you.

  • Make sure you use a loan servicer and that everything is in writing. If it's not, it can strain a relationship if it were to go wrong, especially if it is a close friend or family member.


Portfolio Loan

Pros:

  • You use the equity you have in all your other properties as collateral.

  • Usually these are made from smaller banks with more flexible terms.

  • You have to shop around and ask lots of questions. Every portfolio loan is completely different.

Cons:

  • It takes time to build a relationship with a bank so that they will do this.

  • Obviously, you need to have a portfolio that holds some untapped equity in order to utilize this strategy.


Note to first time (or second or third time investors): it will always feel like you are getting ripped off when you are applying for a loan. You will always wonder, could I have gotten a better rate? Could I have paid less points? Could I have gone with a bank that would have been able to close quicker?


It's like dating. You can always look for something better, but if you get in that mindset you will always be unsatisfied. When you find the deal, shop for the loan, but know that there are so many variables, it will be impossible to know with 100% certainty if you are getting the best deal. And that doesn't even matter. Taking action and getting a good deal done is better than waiting forever to get a grand slam of a deal. If the numbers work, go for it. Do not over think it.


It also helps to build a relationship with a lender you trust. As I get older, I care more about responsiveness. A slow lender can kill a deal. I need someone who follows up, is constantly communicating, and someone whom I don't feel I am annoying when I ask a lot of questions. If they are 2/10's of a rate higher, it's worth it to me. Over time, they help me more and more find better and better loans. So, just food for thought.


Did I leave anything out? Feel free to comment below!


Happy loan hunting! Go out there and lock up your deal! :)


Forever grateful,

Mack

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