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Types of Real Estate Loans
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There are a variety of real estate loans present in
the market today. The loans have been designed to accommodate the different needs of borrowers.
Here is the list of the basic types of real estate
loans:
Amortized Loan: A loan in which the principal as well as the interest is payable in monthly or other periodic installments over the term of the
loan, is called amortized loan. This is the modern mortgage loan,
where the borrower makes equal monthly payments which are part principal and part interest. The payments start with a larger proportion of interest at the beginning of the loan term and gradually shift to a larger
proportion of principal toward the end of the payment series.
An amortized loan can be viewed as the FV of an ordinary annuity.
FV (annuity) = FV (amortized loan)
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Adjustable Rate Mortgage (ARM): Adjustable
rate mortgage (ARM) is a mortgage in which the
interest rate is adjusted periodically based on a
preselected index. Also sometimes known as the re-negotiable
rate mortgage, the variable rate mortgage
or the Canadian rollover mortgage.
There are several types
of ARM loans available, with different levels of
'payment-change' risk. You can choose a loan with an
interest rate that adjusts every 6 months or a year.
These loans usually have the most attractive
introductory rates. There are also loans that will
offer a fixed interest rate for 3, 5, 7 (or even 10
years), before turning into 1 year adjustable rate
loans. These loans offer some payment stability, while
at the same time offering a lower rate than could be
obtained with a fixed rate loan. But remember, loans
with fewer rate adjustments usually charge a higher
introductory rate.
The adjustable rate mortgage (ARM) now makes up about half of all new real estate loans. With an ARM, the interest rate changes throughout the term of the loan, and the monthly payments can go up or down accordingly. The interest rate is the sum of an index rate and a margin. The margin is set by the lender and does not change. ARMs come with lifetime interest rate caps, and usually an annual cap. Some ARMs offer reduced initial rates.
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Hybrid Mortgage: Hybrid mortgages have
characteristics of both fixed rate and adjustable rate
mortgages. It allows homeowners to benefit from the best aspects of both fixed-rate and adjustable-rate mortgages.
With hybrids, borrowers choose to accept a fixed interest rate over a number of years,
usually three, five, seven or 10 years -- and afterward the loan converts to an ARM. And therein lies the danger: while you're getting an extraordinarily low rate up front for a few years, when the fixed-rate period expires you could very well end up paying more than double your current rate of interest.
In short we can say that , hybrid mortgages start
out as ARMs and are convertible to fixed rate loans,
and vice versa.
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Second Mortgage: An additional mortgage which is in second position or subordinate to the first mortgage. These are often called
home equity loans or home equity lines of
credit. It is registered on title after another mortgage (the first mortgage) and, therefore, is behind the first mortgage in priority. In the event of default and sale of the property, the second
mortgage will only be paid if there are funds left after the payment of the first
mortgage, means that if the property goes into foreclosure, the first mortgage must be paid in full before the second mortgage holder is entitled to be paid.
Some buyers will get a second mortgage if they cannot obtain enough of a loan from the first mortgage or if they can qualify for better terms on the first mortgage by obtaining a smaller second mortgage. There is no limit to the number of junior mortgages that can be placed against a property.
It can be used to reduce the cash down payment
for your purchase of property. For example, if you’re buying a house for $100,000 and your
down payment is $20,000, you can reduce that down payment
to $10,000 by getting another mortgage for $10,000.
Usually the second mortgage will have a higher interest rate because it involves a greater risk to the lender since any proceeds from the property go first to pay off the first mortgage.
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Conforming Loan: It is the loan which conforms to the purchase requirements of the two major secondary mortgage market lenders (Fannie Mae and Freddie
Mac). These two stockholder-owned corporations purchase mortgage loans complying with the guidelines from mortgage lending institutions, packages the mortgages into securities and sell the securities to investors.
By doing so, Fannie Mae and Freddie Mac, like Ginnie Mae, provide a continuous flow of affordable funds for home financing that results in the availability of mortgage credit for Americans.
Conforming loans not only have the most competitive interest rates, they also tend to have the most stringent qualifying criteria. If your credit is shaky or you have been job-hopping in recent years, you may find it easier to qualify for a mortgage with a portfolio
lender (A portfolio lender is a lender that doesn't routinely sell its loans on the secondary market. You may pay a higher interest rate with a portfolio lender,
however).
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Jumbo Loan: A nonconforming loan
above the maximum loan amount established by Fannie
Mae and Freddie Mac are known as 'jumbo' loans.
Because jumbo loans are bought and sold on a much
smaller scale, they often have a little higher
interest rate than conforming, but the spread between
the two varies with the economy.
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Wraparound Loan: A technique which permits an existing loan to be refinanced at an interest rate between the original loan rate and the currently prevailing market rate.
In this arrangement, a buyer purchases the property with the seller’s existing loan still in effect. The seller continues to make payments on the original loan and the buyer obtains a new loan which “wraps around” the first loan.
Or we can say that it is a secondary financing option in which new money borrowed is blended with money already owed and registered on title to the property. A second mortgage is registered as security for the new money but the old mortgage remains in existence and the rate of interest is a blend of the rate chargeable on the old mortgage and the rate chargeable on the newly borrowed money.
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Short-Term Loan: A loan with term of 5 years or less, usually with a higher interest rate than a conventional mortgage.
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Cash-Out Refinancing: It is the process of taking out of a new mortgage at an amount that exceeds the existing balance on the current mortgage in order to refinance the original mortgage and receive additional cash for other use.
With Cash-Out refinancing, you refinance your mortgage for more than you currently owe, then pocket the difference.
Cash-Out refinancing differs from a home equity loan in a couple of
ways:
- A home equity loan is a separate loan on top of your first mortgage; a Cash-Out
refinancing is a replacement of your first mortgage.
- The interest rate on a Cash-Out refinancing is usually, but not always, lower than the interest rate on a home equity loan.
- You have to pay closing costs when you refinance your loan; you don't have to pay closing costs for a home equity loan. Closing costs can amount to hundreds or thousands of dollars.
- It doesn't make sense to refinance a higher amount at a higher rate. If your current mortgage is at a lower interest rate than you could get now by refinancing, it's probably better to get a home equity loan.
When you decide whether to do the Cash-Out refinancing option, keep in mind that you'll have to pay private mortgage insurance if you end up borrowing more than 80 percent of your home's value. If you would have to pay PMI, it might be cheaper to take out a home equity loan.
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Bridge (Interim or Swing) Loan: A bridge or
interim loan or swing loan is a short-term loan which spans the gap between two other loans. Bridge loans are often used by buyers between the closing dates of a home purchase and a home
sale. They are the perfect solution to timely real estate acquisitions or business opportunities because they allow a purchaser or investor to act quickly.
In real property transactions, a bridge loan can give you a stronger negotiating position and enable you to buy a property without a contingency on the sale of your existing property.
Bridge Loan financing is an effective vehicle to immediately capitalize on a purchase opportunity. It is a form of short-term financing which is expected to be paid back - generally within the range of 6 to 36 months - once the borrower obtains more permanent, lower cost financing.
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Construction Loan: A construction loan is generally a short-term, higher interest loan, where the lender advances money in stages as the construction
progresses. They are replaced by another more permanent loan once a home is built.
There are two basic types of construction loans:
- Construction-to-permanent loan- The borrower only pays interest during the construction phase of the project. The lender then automatically converts the loan to a mortgage after the home is built.
One of the biggest advantages of this type of construction loan is that there is only one application and one closing. Consumers pay just one set of costs for many of the required underwriting steps.
These loans usually have low or no up-front fees.
- Construction-only loan- This arrangement requires separate loans for construction and mortgage. First, the borrower applies for and pays closing costs on the loan for the construction. Only interest is paid during the building stage, and the entire principal amount is due at the end of the term. This loan typically has a six-month to one-year term. In addition to the other fees connected with the construction-only loan, borrowers also can expect an up-front service charge. Next, the borrower must apply again for the mortgage and pay another set of closing costs. The two loans can come from the same lender or different lenders.
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Take-Out Loan: This is a conventional loan which replaces or “takes out” another loan, such as a construction or bridge
loan .It is a permanent long-term loan taken out upon completion of a new
building. They work together with construction loans. Take-out loans are also called
permanent end loans.
Or we can define it as, construction loan with take-out refers to
"short-term financing" of real estate construction followed by
"long term financing", called a "take out" loan. This "take out" loan is issued upon completion of improvements.
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Reverse Mortgage: Designed for senior citizens who are equity-rich and cash-poor, reverse mortgages give the homeowner a lifetime fixed monthly retirement income.
With a reverse mortgage, you remain the owner of your home just like when you had a forward mortgage. You are still responsible for paying your property taxes and home-owner insurance and for making property repairs.
When the homeowner dies, the residence is sold, the loan is paid off and any leftover cash goes to the heirs. The homeowner may also decide to sell the house and receive the leftover cash. Reverse mortgages can provide real benefits, but their image has been tarnished by predatory lenders who have scammed unsuspecting seniors with huge up-front loan fees.
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Term (Straight) Loan: Term Loans are an excellent source of funding for purchasing equipment, vehicles, and other fixed assets or for obtaining permanent working capital.
In the term loan, Borrowers paid the interest in a lump sum at the end of each year. The principal was due at the end of the loan period, which could be as short as one to five years.
Term Loan Benefits are:
- Monthly payments automatically debited for your convenience.
- Competitive fixed or variable interest rates.
- The assets you purchase can usually secure the loan.
- Competitive repayment schedules.
- Loan amounts starting at $25,000.
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Interest-Only Loan:
Interest-only loans do not include the repayment of any principal for a given time period. The borrower pays only the interest while the loan balance remains unchanged. Some home equity lines of credit are set up as interest-only loans for a given time period (such as 5 years) and then convert to conventional amortized
loans
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Balloon
(Partially-Amortized) Mortgage: A balloon mortgage can be an excellent option for many home buyers.
This is a short-term loan with a final or balloon payment due at the end of the term. Monthly payments are usually calculated over a 30-year
period, so that the borrower pays a combination of interest and principal each
month.. Borrowers often refinance the loan before the term is up to avoid making the balloon payment.
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Budget Loan: The budget loan includes the standard housing costs, which are the principal, interest, real estate taxes and insurance.
This helps some borrowers budget for these expenses.
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Package Loan: It
is a real estate loan used to finance the purchase of both real property and personal property, such as in the purchase of a new home that includes carpeting, window coverings and major appliances.
Purchase Money Loan:
A loan used to finance the purchase of a one-to-four unit personal residence, or where the seller extends credit to the purchaser of a property.
It is a loan financed by the seller.
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Open End Loan: It
is a mortgage loan that is expandable by increments up to a maximum dollar amount, the full loan being secured by the same original mortgage.
It is a type of home equity loan or second mortgage which provides a line of credit.
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Blanket Loan: Blanket Loans Are Ideal for
transitional homeowners. It
involves more than one property offered as collateral.
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Graduated Payment Mortgage (GPM):
The Graduated Payment Mortgage (GPM) is another alternative to the conventional adjustable rate
mortgage. The graduated payment mortgage offers monthly payments which start out low and gradually increase. During the early series of payments the principal may actually increase, which is a process called
"negative amortization".Unlike an ARM, GPMs have a fixed note rate and payment schedule. With a GPM the payments are usually fixed for one year at a time. Each year for five years the payments graduate at 7.5% - 12.5% of the previous years payment.
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Installment Sale:
An installment sale is selling property and receiving the sales price over a series of payments. A down payment is normally made and the balance of the sale is an installment sale. An example would be fifteen (15) years.
The seller benefits by deferring profit tax and the buyer benefits by deferring payments on the
principal.
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No-Interest (Islamic) Loan:
Some lenders have developed certain types of no-interest loans to meet the needs of Islamic buyers, whose religious beliefs forbid charging interest.
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Simple (Daily) Interest loan:
A simple interest loan is one where you only pay interest on the original
principal and not on the interest that has accrued. It
is a complicated type of loan which requires that payments be made exactly on the same date each month.
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Shared Appreciation Mortgage (SAM):
In this type of loan, the lender gives the borrower a lower interest rate in exchange for a 30 to 60 percent share of the property’s future appreciation. The more appreciation the borrower agrees to share with the lender, the lower the interest rate. SAMs are making a comeback in some areas because of rising home prices and mortgage rates.
Before entering into a shared appreciation mortgage, be sure to have your real estate attorney review the documentation.
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