Oh no, not mortgage insurance! California home buyers often react this way when they learn…
What’s the best type of mortgage loan to use when buying a home in the Bay Area?
This is a common question among home buyers in the Bay Area, and rightfully so. Given the pricey nature of our real estate market, many buyers rely on mortgage financing to facilitate their purchases. And it’s only logical to seek out the best type of home loan for your particular situation. So let’s dive in!
What’s the ‘Best’ Mortgage for a Bay Area Home Purchase?
Bay Area home buyers have several important choices when it comes to the different types of mortgage loans. To help you choose the best type of financing, start by asking yourself the following questions:
- How much of a down payment can you afford?
- How long do you think you’ll stay in the home?
- Are you comfortable with an unpredictable interest rate?
If you answer these three questions, you’ll have an easier time choosing the right type of mortgage for your Bay Area home purchase. Read on to find out why.
1. How much of a down payment can you afford?
If you have limited funds for a down payment, you might want to consider using the federal government’s FHA loan program. This is a popular option among first-time home buyers in particular, and for several reasons. It offers a down payment as low as 3.5% of the purchase price, along with flexible requirements.
Borrowers with smaller down payments could also use a conventional (or “regular”) mortgage loan, combined with private mortgage insurance. This would allow you to put down as little as 3%, in some cases.
Bay Area home buyers with a bit more money in the bank might want to pursue a conventional mortgage loan with a down payment of 20% or more. This keeps the loan-to-value (LTV) ratio at or below 80%, thus avoiding the extra cost of private mortgage insurance. It might also make your offer more appealing to sellers.
Are you in the military? Are you a veteran? If so, you can’t go wrong by using the VA loan program. It offers 100% financing in most cases, which eliminates the need for a down payment.
2. How long do you plan to stay in the home?
Bay Area home buyers seeking the best mortgage option should also consider the difference between fixed- and adjustable-rate loans.
A fixed-rate mortgage (FRM) has the same interest rate for the entire term, even if the term is 30 years. It offers long-term predictability as the primary benefit.
An adjustable-rate mortgage (ARM) loan, on the other hand, has an interest rate that adjusts on a regular basis. In most cases, the rate will change or “adjust” once per year.
Some ARMs start off with a fixed interest rate for a certain period of time, such as 3, 5 or 7 years. After that, the rate changes annually. These “hybird” loans typically start off with a lower mortgage rate than their fixed counterparts, but only during the initial phase. After that, the rate adjusts every year.
When choosing the best mortgage product for your Bay Area home purchase, think about your long-term plans and goals. If you’re only planning to stay in the house for a long time, you might prefer the stability of the fixed-rate loan. If you’ll only be in the home for a few years, you might benefit from using an ARM to secure a lower interest rates.
3. Are you comfortable with an unpredictable interest rate?
Some Bay Area home buyers avoid adjustable mortgages for one simple reason. They’re not comfortable with the idea of a changing, unpredictable interest rate.
Jack Guttentag, a finance professor at the University of Pennsylvania, wrote the following:
Whether the adjustable rate mortgage (ARM) or fixed rate mortgage (FRM) turns out better depends on what happens to interest rates in the future, which no one knows. Shoppers faced with this decision should ask themselves ‘Is this a risk worth taking,’ and ‘can I afford to take it?’
You know the interest rate will change on an annual basis. But you don’t know exactly how it will change. So there is an uncertainty factor with ARMs you don’t have with fixed mortgages.
That doesn’t mean adjustable loans are a bad choice for home buyers in the Bay Area. In some cases, it can make sense to use this type of loan. In other cases, not. The important thing is to understand how your chosen mortgage product will behave over time, and whether or not it aligns with your goals.