Get a Better Deal on a Home Loan

It is often said that for most people, the purchase of their home will be their single greatest expenditure. Purchasing a home can be very exciting and also quite stressful. Many people want to try to get the best deal as possible on their mortgage. Getting a good deal may also mean different things for different people: do you want to pay more upfront in order to reduce the total cost of the mortgage? Do you want to pay less each month? Do you want flexibility? These are things to keep in mind when researching mortgages. In order to get a good deal on a home loan, we advise researching interest rates, cutting costs with your down payment or assistance programs, and improving your credit score.


Researching Interest Rates

  1. Watch interest rates. The easiest way to get a lower rate is to wait until the interest rates on loans across the board are at low levels. Interest rates fluctuate a great deal, sometimes even during the same day, but there are times when they are simply lower than at other times. Sometimes periods of low interest rates also see increased home prices, so keep this in mind.
    • You can speak with your bank about current interest rates on loans and ask their opinion about if now is a good time to buy.[1]
  2. Speak with different lenders. Mortgage rates for the same person can differ widely from lender to lender, so explore your options. Talk to different banks, credit unions, and brokers in your area. If you belong to a credit union or if you've been with a bank for a long time, you'll often find your best rates there, though it's still a good idea to check around.
    • A mortgage broker, who sifts through many lenders, may be able to find you the best rate. On the other hand, a lender, like a credit union, does not have to cover the overhead of a broker, and you may find lower rates with them.[2]
  3. Avoid an adjustable rate mortgage (ARM). Mortgages generally come in two flavors: fixed or adjustable interest rates. Fixed rates lock the borrower into a consistent interest rate that the borrower pays throughout the course of the loan. The part of your mortgage payment that goes toward principal and interest remains the same, though insurance and taxes may fluctuate.
    • With an adjustable rate mortgage (ARM), the interest charged fluctuates during the life of the loan. You begin with an introductory period of ten, five, or even one year where the interest rate is locked in (usually at a pretty low rate, which is what attracts people to this type of loan), and then after the introductory period your interest is calculated based on a standardized index such as the “prime rate.” While you may like the idea of a low introductory interest rate with an ARM and even though there is a cap on how high the interest rate can be raised to,[3] be aware of the likelihood that your interest rate will increase substantially in the future and increase the total cost of your loan.[4]
  4. Consider paying for points. In banking terms, a point is an upfront fee equal to 1% of the total mortgage amount that you’d pay in order to lower the ongoing interest rate by a fixed amount (usually 0.125%). A lender can also use negative points – in other words reduce their fees in exchange for a higher ongoing interest rate. Paying for points usually makes sense if you plan to keep your loan for a long time because you’ll end up with a lower ongoing interest rate.[4]
  5. Consider the life of the loan. The most common loan terms are 30-year (lowest monthly payment), 10-year (highest monthly payment), and 15- or 20- year (between the two). Even though the 30-year plans have the lowest monthly payments, you pay more in the long run because interest rates are higher for longer loans.
    • You will get a better deal by taking out a shorter loan because you are paying less in interest, so you should consider how much you can comfortably pay each month and see if a mortgage shorter than 30 years is possible for you.[5]
  6. Know the questions to ask yourself. Ask yourself the following questions when determining which loan offer to take after you have shopped around:
    • Is the interest rate fixed or adjustable?
    • Do I need to pay points or are there other fees with the loan?
    • What is the term of the loan?
    • How much will my payment be? Are there other costs such as broker and title search fees added onto my monthly payment?
    • May I repay the loan early without penalty?
    • Will the payments change over the life of the loan? How high can it go?
    • How much do I need to put down?
    • Does the written offer match what I was told about the loan?[2]

Cutting Costs with Your Down Payment or Assistance Programs

  1. Save as much as your budget allows each month. The less money you have upfront to pay toward your home, the more interest you will end up paying though out the life of the loan. Depending on your lender and the type of loan you choose, your required down payment can range from 2.5% to 20% of the cost of the home.
    • Once you have budgeted how much money you can save each month, automatically put money from each paycheck into a savings account.
    • Make a monetary goal of how much you want to put toward a down payment. This can be difficult if you don’t have a specific home in mind, but you could, for example, tell yourself that you are going to look in a certain price range of homes, and that will have at least 15% of that amount saved for your down payment.[1]
  2. Avoid mortgage insurance. Private mortgage insurance (PMI) is an insurance policy that protects lenders from the risk of default and foreclosure, and allows buyers who cannot (or choose not to) make a significant down payment to obtain mortgage financing at affordable rates. There are two ways to avoid paying PMI:
    • Make a down payment that is at least 20% of the purchase price of the home. This is the simplest way to avoid paying PMI.
    • Consider a piggyback mortgage. In this situation, a second mortgage or home equity loan is taken out at the same time as the first mortgage. For example, in an “80-10-10” piggyback mortgage, 80% of the purchase price is covered by the first mortgage, 10% is covered by the second loan, and the final 10% is covered by your down payment. This lowers the loan-to-value (LTV) of the first mortgage to under 80%, eliminating the need for PMI.[6]
  3. Look into special loan programs. If you are having a hard time saving 20%, don’t despair. There are special loan programs that may be helpful if you are unable to save a lot for your down payment. Just keep in mind that while the programs may be affordable in the short term, in the long term you may be paying more for your loan because of more monthly payments, which means more interest. Be sure to read the fine print. Here are a few examples of special home loan programs:
    • FHA loans. Federal Housing Administration (FHA) loans often require lower down payments, and they are open to most U.S. residents. They are popular with first-time homebuyers because they can require as little as 3.5% down and are more forgiving of low credit scores.[7]
    • VA loans. A loan through the VA (Veterans Affairs) is an option if you or your spouse served in the military. These loans require lower (or no) down payments and can offer great protection if you fall behind on your payments.[4]
    • USDA loans. If you live in a rural area, you may qualify for a loan offered by the U.S. Department of Agriculture. This loan program began in 1991 as an incentive to boost home ownership in rural areas. Like VA loans, they can offer low down payments and help out if you fall behind on payments.[7]
  4. Check out other homebuyers’ assistance programs. There are other assistance programs for first-time homebuyers, and programs like the “Good Neighbor Next Door” program for teachers, firefighters and law-enforcement officers.
    • These programs are listed on the U.S. Department of Housing and Urban Development (HUD) website. The programs differ depending on the state where you live, but most offer assistance and discounts on loans for certain qualified buyers.[8]

Improving Your Credit Score

  1. Get pre-qualified and pre-approved. A pre-qualification is based on information voluntarily submitted by you to a lender, who then provides an 'estimate' of the maximum mortgage amount you can afford. It can give you a better sense of how much you can borrow and the range of prices of homes you can afford.[1]
    • A pre-approval means the borrower has had the lender perform credit checks, income verification, and various other underwriting tasks and has been approved for a specific mortgage amount.
  2. Make payments on time. The better your credit score, the better deal you’ll be able to get when applying for a home loan. Every delinquency will result in a lower credit score. So, pay all of your utility bills and other open loans (student or car loans) on time. Keep in mind that it typically takes at least a couple of years to significantly improve your credit score, especially if you have accumulated bad credit through late payments.[9]
  3. Get a credit card and under-use it. Having one or two credit cards that you use for small purchases and pay off each month can be very good for your credit. By small purchases, we mean use only about 10% of your card’s limit. So if your card has a limit of $1500, then only charge about $150 to it and pay that off every month.
    • Avoid making large purchases in the months before you apply. If you add new debt expenses shortly before applying for a mortgage, the loan underwriter may question whether you'll be able to make all your payments.
    • If you can’t get a traditional card, then you could try getting a secured credit card, which is a card you can get through your bank that is specifically designed to build or rebuild credit. Or, you could become an “authorized user” of an existing credit card account by asking a relative or friend to add you to their account.[9]
    • Don't close accounts when you pay them off. Credit capacity is an important part of credit scoring. Unused open accounts do not help credit scores, but higher scores come from current use of credit. Use your credit cards - pay them off - repeat.[10]
  4. Dispute errors and negotiate. Mistakes on your credit score can happen – a late payment can be recorded if you didn’t actually pay it late. If mistakes happen, then follow up and dispute the error online with groups like Equifax or TransUnion.
    • Also, if you make a few late payments because of unemployment or brief economic hardship, once you get back to paying on time you can write a letter to the creditor emphasizing your overall good history and asking them to erase the record of the missed payments.[9]

Sources and Citations

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