Buying a home and navigating the mortgage process can be confusing, given the conflicting information and widespread myths surrounding financing. Differentiating between fact and fiction is essential for making informed decisions about your mortgage. In this article, we'll debunk common mortgage myths and provide you with accurate information. From down payment requirements to refinancing options, we'll explore the facts and dispel the misconceptions that may be holding you back from financing the purchase of a home.
Mortgage Myth 1: You Need a 20% Down Payment To Get a Mortgage
One of the most persistent myths among first-time homebuyers is the belief that a 20% down payment is necessary to secure a mortgage. While a 20% down payment can offer certain benefits, such as avoiding private mortgage insurance (PMI), it's important to know that it's not the only option. Many lenders now offer mortgage programs that require a down payment of less than 20% making homeownership more accessible to a wider range of buyers. Please note, not every lender offers every one of these loan types - including Heritage Family Credit Union.
Several loan programs require a down payment of less than 20%:
- FHA Loans. The Federal Housing Administration (FHA) offers loans with down payments as low as 3.5%.
- VA Loans. Veterans Affairs (VA) loans are available to eligible veterans and military service members, often with no down payment required.
- USDA Loans. The U.S. Department of Agriculture (USDA) offers rural housing loans with low down payment requirements or no down payment at all in eligible areas.
- VHFA (Vermont Housing Finance Agency). A non-profit organization in Vermont offers a variety of mortgage programs, down payment assistance, and affordable housing initiatives for Vermont residents.
- Home One or Home Possible. Both programs offer a downpayment as low as 3% and often have reduced PMI premiums as a benefit of the program.
- 80/20 with NeighborWorks of Western Vermont. This program offers 100% financing to specific Vermont homebuyers.
Additionally, credit unions often have more flexible down payment requirements than traditional banks. They may be able to offer loans with lower down payment percentages, making homeownership more attainable for borrowers with limited savings.
Note: Private mortgage insurance (PMI) is an extra cost added to your monthly mortgage payment when you put down less than 20% of the home's purchase price. PMI protects the lender in case you default on your loan. While PMI can add to your monthly expenses, it's often a worthwhile trade-off for the ability to purchase a home with a smaller down payment.
Mortgage Myth 2: You Can’t Get a Mortgage if You Have Debt or Student Loans
While having debt, including student loans, can impact your mortgage eligibility, it doesn't necessarily mean you can't get a loan. Lenders are more concerned with your overall financial health and your ability to make monthly mortgage payments. Even if you have a high student loan debt balance, you may still be able to qualify for a mortgage if you have a strong income and can maintain a manageable debt-to-income (DTI) ratio, a key factor that lenders consider.
The DTI ratio compares your monthly debt payments (including student loans, credit card debt, and other obligations) to your gross monthly income. A lower DTI ratio indicates that you have more financial flexibility and are more likely to be able to afford a mortgage payment. For example, if your monthly income is $5,000 and your total monthly debt payments are $1,000, your DTI ratio would be 20% (1,000 / 5,000). A lower DTI ratio, such as 30% or below, is generally preferred by lenders.
Mortgage Myth 3: Your Credit Score Must Be Excellent for Approval
While a good credit score is certainly important, it's not the only factor that lenders consider when evaluating mortgage applications. Your lender will assess your overall financial health, including your income, debt-to-income ratio, and employment history, in addition to your credit score.
Credit score requirements can vary depending on the type of mortgage you're applying for:
- Conventional loans. Lenders typically require a minimum credit score, and some lenders may have higher requirements than others.
- FHA loans. Offer more flexibility with lower credit score requirements
- USDA loans. May have varying credit score requirements depending on the specific loan program
- VA loans. Generally have more lenient credit score requirements for eligible veterans and military service members
Even if your credit score is below the minimum requirements for a particular loan type, you may still be able to qualify with additional compensating factors, such as a strong income or low debt-to-income ratio.
Buying a home is one of the most important purchases that most people make, so it is important to shop around in order to make sure you are finding the loan that is the best fit for you. At HFCU, our mortgage lending team is available to answer questions and help you make the best decision.
To increase your chances of getting a better interest rate, learn more about how credit scores are calculated and take steps to improve yours. This includes paying your bills on time, keeping your credit utilization low, and avoiding excessive new credit inquiries.
Mortgage Myth 4: Renting Is Always Cheaper Than Buying a Home
While renting may seem like a more affordable option initially, buying a home can offer long-term financial benefits. Consider:
- Down Payment and Closing Costs. While there are upfront costs associated with buying a home (down payment and closing costs), renting also has upfront and ongoing expenses such as security deposits and rent increases.
- Equity Building. When you own a home, you're building equity, which is essentially an investment in your property. Over time, your home's value may increase, providing you with financial growth.
- Stability. Homeownership offers stability and predictability compared to renting, as you won't have to worry about rent increases or potential eviction.
- Tax Benefits. Homeowners can often benefit from tax deductions related to mortgage interest and property taxes.
- Government Programs. First-time homebuyers may be eligible for government programs that offer assistance with down payments and closing costs.
Though the initial costs of buying versus renting a house may seem higher, the long-term benefits can outweigh the upfront expenses. Ultimately, you’ll make the choice that’s best for you and your individual circumstances, whether that’s buying or renting.
Mortgage Myth 5: Prequalification Means You’re Preapproved
Mortgage prequalification and preapproval are not the same thing.
Prequalification is a preliminary step that gives you a rough idea of how much you might be able to borrow. It's based on the information you provide to the lender, such as your income, assets, and debts. Prequalification can be helpful for determining your budget and exploring potential home options.
Preapproval is a more rigorous process that involves a deeper review of your financial information. Your lender will verify your income, assets, and debts, and your application will go through the first rounds of underwriting.
Preapproval carries more weight during the home-buying process and can strengthen your position in the competitive housing market. Sellers are more likely to take your offer seriously if you have a preapproval letter in hand. It demonstrates your financial readiness and increases your chances of a successful offer.
Mortgage Myth 6: The Lowest Interest Rate is Always the Best Deal
While a low interest rate is an important factor when choosing a mortgage, it's not the only factor that determines the overall cost of the loan. Other factors that impact your total expenses include:
- Loan fees
- Closing costs
- Origination fees
- Appraisal fees
- Title insurance costs
Understanding how interest rates and mortgage terms work together is essential. A lower interest rate can result in lower monthly payments, but a longer loan term may offset some of the savings. Conversely, a shorter loan term with a slightly higher interest rate may result in higher monthly payments but lower overall interest costs.
In some cases, a slightly higher interest rate with lower fees or a shorter loan term may be a better overall deal. Carefully evaluate all aspects of the mortgage offer to determine the most cost-effective option for your needs.
Mortgage Myth 7: Pay Off Your Mortgage as Quickly as Possible
While paying off your mortgage early can provide a sense of accomplishment, it's important to consider your overall financial goals. If you have high-interest debt, such as credit cards, focusing on paying those off first may be a more financially prudent strategy. This can significantly reduce your overall financial burden and open up more opportunities.
Additionally, if you have a retirement account earning a high rate of return, investing your extra money there can provide substantial long-term financial benefits. Remember, mortgage interest is generally tax-deductible. If you have a high income and itemize your deductions, paying off your mortgage early may reduce your tax savings. Consulting with a tax professional can help you assess the impact on your overall financial situation.
Mortgage Myth 8: A 30-Year Fixed-Rate Mortgage Is Always the Best Option
While 30-year fixed-rate mortgages are a popular choice, they may not be the best option for everyone. The ideal mortgage term depends on your financial situation and goals. Different mortgage terms include:
- 30-Year Fixed-Rate Mortgage. Offers stability and predictable monthly payments, though the longer loan term can result in higher overall interest costs.
- 15-Year Fixed-Rate Mortgage. Has a shorter loan term, resulting in lower overall interest costs, but the monthly payments are typically higher.
- Adjustable-Rate Mortgages (ARMs). Offer lower initial interest rates compared to fixed-rate mortgages. However, the interest rate can adjust periodically, potentially leading to higher payments in the future.
If you plan to stay in your home for a long time, a 30-year fixed-rate mortgage may be the best option. But if you're planning to sell your home within a shorter time frame, an ARM or a 15-year fixed-rate mortgage might be more suitable.
Mortgage Myth 9: You Can’t Refinance if Your Home’s Value Has Dropped
If your home's value has decreased, refinancing may still be an option. While a decline in home values can make it more challenging to refinance, there are programs available to help homeowners in these situations.
If you have a long-term fixed-rate mortgage with a relatively high interest rate, refinancing to a lower rate can be advantageous. Even with a decrease in the home’s value, the savings from lower monthly payments and reduced overall interest costs can outweigh the potential drawbacks.
By refinancing your mortgage and securing a lower interest rate, you can reduce your monthly payments, save money over the life of your loan, and potentially access cash through a cash-out refinance.
Of note: If your home's value has increased significantly during the period of rising interest rates, you may be able to refinance and access some of that equity through a cash-out refinance, where you refinance your mortgage for more than you owe and receive the difference in cash. This can be useful for home improvements, debt consolidation, or other financial needs.
Mortgage Myth 10: The Mortgage Process Is Stressful
While the mortgage process can be complex, it doesn't have to be stressful. When you choose the right lender, you'll have access to experienced professionals who can guide you through each step of the process. At HFCU, our mortgage lending team is dedicated to providing personalized support and guidance. We'll walk you through the entire process, answer your questions, and ensure a smooth experience.
Make sure the team you’re working with is the right fit for you—if you have questions or need more explanation on the process, simply ask them to explain in more detail. Your mortgage team is there for you!
Remember, the mortgage process can be easier when you have the right information and support. By understanding the facts, you can make informed decisions that align with your home financing goals.