Home Loans For First-Time Buyers
Fixed rate, ARM, DPA, bonds, FHA, Conventional, oh my! For a first-time home buyer trying to navigate the buying process, the amount of jargon they are likely to encounter is staggering. What can be just as intimidating as the jargon is trying to decide which loan product works best for a home buyer’s unique buying situation. Fact is, every loan product exists because it is the perfect product…for someone. Stay with me as we learn about the home mortgage options for first time buyers.
There are two ways to learn the ins and outs of the myriad home mortgage options for first time buyers. LOTS of reading. And we mean lots. Program flyers, guidelines, income limits, geographical restrictions, to need seller’s assistance or not to need sellers assistance (and how much), and more.
The second option is to work with a lender familiar with first time buyers and the many programs available to them. Today, we will review some of the most common types of loan types that first-time buyers can (and should) take advantage of.
Before we dive in, it is important to stress that the products we talk about for first-time buyers are those that are either designed for first-time buyers, specifically, along with those that address the needs of most first-time buyers – a low down payment product that does not require perfect, seasoned credit. So, which mortgage is right for you?
VA and USDA loans are available government-backed mortgage options and are two of the best loan products available. Both offer low fixed rates, require 0% down payment, and are available to buyers with credit ratings anywhere from ‘average’ to ‘excellent’.
VA Home Loans are offered through Veterans Affairs, and the loan product is only available to eligible veterans and their spouses. With no monthly mortgage insurance (PMI), VA is one of the best loans out there because it allows buyers to save money up front with $0 down, save money long term with a low monthly payment, and even allows for a seller to cover closing costs (up to 4% of the purchase price of the home).
USDA Loan Option
USDA is a loan focused on helping low-to-moderate income buyers purchase homes in rural areas throughout the US. The program does have both income and geographical restrictions but is available throughout most of the US. Like VA, the USDA loan program offers $0 down and very competitive interest rates for anyone with average or better credit.
If comparing USDA and VA loans, VA is a slightly better loan because USDA does have monthly PMI that is attached to the mortgage for the life of the loan. However, USDA loans are still an excellent option for some buyers so do not discount it if it is available in your area.
Good Neighbor Next Door
If you live in a community that qualifies as a Housing and Urban Development Revitalization Area, you may qualify for a Good Neighbor Next Door loan. While not all that common, they assist emergency medical technicians, firefighters, law enforcement officers, and pre-kindergarten through high school teachers with their housing needs.
The key provision with a Good Neighbor Next Door loan is they offer a 50% discount off the list price for qualifying properties. A requirement is the stipulation you must live in the home for at least 3 years.
An FHA Mortgage is a government-insured mortgage loan and is one of the most popular options for first-time home buyers. Allowing buyers to purchase with as little as 3.5% down, FHA offers great rates on fixed and adjustable rate products and has a competitive PMI premium. With an FHA loan, a seller can contribute up to 6% of a purchase price to help with buyer closing costs, making the total buyer investment minimal.
While an FHA home loan does have a small down payment requirement, it can often be offset using DPA (more on that, later), and the low rates for anyone with average or better credit and no income or geographical restrictions make it a good loan option for many buyers without a large payment. It is especially good for those buyers without a perfect credit history.
There is an FHA provision that allows you to receive a gift to cover the down payment, effectively providing you with a no money down loan. Like all loan options, check with a lender to ensure you meet eligibility requirements.
Down Payment Assistance Loans & Products (DPAs)
In your search for a new home, depending on where you live and who you are working with, down payment assistance (DPA) may be a term you hear. DPA comes in many shapes and sizes and attaches itself differently to different loan types, but the gist is this: You get financial help to cover your down payment, and (usually) you pay for it in other aspects of your transaction (for example, some DPA products will cover your down payment but require you accept a higher interest rate than would be available on a product with a down payment requirement).
Some DPA comes in the form of bonds or “free money” from state or local governments. These can be in the form of second mortgages (sometimes even interest-free!) or a similar lien against your new home. Many DPA programs have income restrictions and are geared toward low-to-moderate income buyers, and many are often geographically restrictive to a specific state or even county.
Other forms of DPA come in the form of private money, such as the CHENOA program. With CHENOA, DPA is combined with an FHA first mortgage to cover a buyer’s down payment requirement. In return for the down payment assistance, a buyer accepts a mortgage with a slightly higher than market interest rate and an additional fee for using the program.
While DPA comes in many shapes and sizes, it almost always involves give and take – save money on the down payment in exchange for something, whether it be a higher rate or a second mortgage lien. So if you opt for DPA it is very important that you understand the product you are applying for and working with a lender that is familiar with it and can explain it in detail.
Good Ole’ Fashioned Conventional Loans
Conventional loans have come a long way in the past couple of years. In today’s marketplace, a buyer can get a conventional loan with as little as 3% down, and if they have great credit, their mortgage and PMI rates will be very competitive. The nice benefit of a conventional loan over an FHA loan is that PMI on a conventional loan can be removed once a buyer accumulates 22% equity in their new home through paying down their loan balance or a combination of that plus home appreciation.
A conventional loan is a good option because unlike with government loans (VA, USDA, and FHA), there is no “Up front mortgage insurance premium”, a cost that boosts a buyer’s loan amount on government loans. While conventional loans are not always the most obvious choice for first-time buyers, they are a great option for those with great credit.
More Home Loan Choices
While the list above represents some of the most common home loan choices, there are others that may/may not be applicable to you or the region you are trying to purchasing a home in. Some of these include:
- FHA Section 203(k) – If the idea of buying and rehabbing a home appeals to you, this could be a good option. The loan amount includes the future value of the home after renovations have been made. They offer competitive down payment options too.
- Energy Efficient Mortgages – While technically available to existing homeowners to make the home “greener”, these are good options for anyone who wants to be more environmentally conscious.
- Native American Veteran Direct Loans – If you are a native American living on federal trust land, you may qualify for this type of VA loan. The good news is you do not need a down payment nor will you be required to pay for PMI.
So What Loan Product Is Best?
There is unfortunately no one-size-fits-all mortgage that is best for all first-time home buyers. In competitive marketplaces with low inventory, it is often the case that the best mortgage is the one that will get you the house! This sometimes means a conventional offering, even if an FHA or other loan may make more financial sense.
Many listing agents fear VA appraisals (unlike other appraisals, VA orders must go directly through VA and are incorrectly viewed as more conservative), incorrectly assume FHA buyers to have a harder time getting a loan and see DPA as a sign a buyer is tight on cash.
Conventional loans are generally assumed to be safest and easiest to get and, in many cases, they are. Especially when a property is a condo, having a property approved for conventional financing can be easier than going the government-backed loan route due to differing guidelines on condos. For these reasons, a market can dictate which loan option will best serve your needs if your #1 priority is getting your dream home.
Otherwise, you can weigh the positives and negatives of each loan product to see which loans is best for you. Average credit with a moderate down payment? Your best loan option may be different from someone with stellar credit and no money saved for a down payment.
Your income and location may also help make the decision for you, and other factors come into play, too. If you do not have military experience, the VA loan is out of the question. Moving to a major metro area? Chances are, you will fall out of the range of USDA loans.
The Best Approach?
Your best option as a first-time home buyer is to find a team of professionals that are experienced and trustworthy. Your real estate agent will guide you through property types and let you know honestly if the market will dictate using what is viewed as a mortgage ‘traditional’ mortgage loan. Your lender will guide you through the loan options and should be asking questions to determine what options you’ll have at your disposal. After reviewing the possibilities, you can determine which way to go.
Preparing in advance of looking at homes is always your best bet. Assemble your team, get preapproved (not prequalified), and know your loan options ahead of time for an educated and excellent home buying experience!
Helpful Home Loan Resources
Bill Gassett: Home Loan Preparations
Kyle Hiscock: 10 Key Mortgage FAQs
Luke Skar: Mistakes Home Buyers Should Avoid
Paul Sian: Important Mortgage Terms
Thanks to John Meussner at Mason McDuffie Mortgage, http://www.jmloans.com, for his expertise on this article.
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