Buying a home is an adventure. First you figure out how much house you can afford. Later comes the mortgage. Knowing how to get the best mortgage rate starts with knowing the answers to these six questions:
1. Get a fixed rate or ARM?
Mortgages have either fixed interest rates or adjustable rates. Fixed-rate mortgages lock you into a consistent interest rate that you’ll pay over the life of the loan. The part of your mortgage payment that goes toward principal plus interest remains constant throughout the loan term, though insurance, property taxes and other costs may fluctuate.
The interest rate on an adjustable-rate mortgage can change over time. An ARM usually begins with an introductory period of 10, seven, five or three years (or even one year), during which your interest rate holds steady. After that, the rate may change periodically.
ARMs usually offer lower introductory rates. But your ARM rate can rise after the introductory period ends, causing monthly mortgage payments to go up — substantially, in some cases.
» MORE: Get a mortgage preapproval
2. Should I pay points?
Discount points are fees borrowers pay to reduce the interest rate on their mortgages. One point is 1% of the loan amount, which typically reduces the mortgage rate by 0.25%, although the reduction can vary. If you take out a loan at 4.5% interest, you might be able to pay a $2,000 fee to reduce the rate to 4.25%.
When you pay discount points, you typically shell out thousands of dollars up front to save a few dollars every month. It takes several years for the monthly savings to add up to where they exceed the initial amount paid. This break-even period varies depending on loan amount, the cost of the points and the interest rate. It’s often seven to nine years. If you don’t plan to have the loan for that long, it’s a good idea to skip the discount points.
» CALCULATE: Should I buy points?
3. What are the closing costs?
Closing costs are fees charged by the lender and third parties. Closing costs don’t affect the mortgage rate (unless you pay discount points). But they do have an impact on your pocketbook. Closing costs usually amount to about 3% of the purchase price of your home and are paid at the time you close, or finalize, the purchase. Closing costs comprise various fees, including the lender’s underwriting and processing charges, and title insurance and appraisal fees, among others.
You’re allowed to shop around for lower fees in some cases, and the Loan Estimate form will tell you which services you may shop for so you can reduce closing costs.
4. Any first-time home buyer programs?
Before you settle on a mortgage, find out if you’re eligible for any special programs that make homebuying less costly. Many states offer help to first-time home buyers as well as repeat buyers.
Each state offers its own mix of programs for home buyers. Many states offer down payment grants, often combined with favorable interest rates and tax breaks. Some programs are targeted geographically and others offer help to home buyers in certain professions, such as teachers, first responders and veterans.
5. Down payment size?
Veterans and rural borrowers may qualify for loans that allow 100% financing, requiring no down payment. Other borrowers may qualify for mortgages that allow down payments as small as 3% or 3.5%. Here’s a summary:
- VA loans: If you or your spouse are active military or veterans, you might qualify for a mortgage guaranteed by the Department of Veterans Affairs.
- USDA loans: If you live in a rural area, the Department of Agriculture might guarantee a low- or no-down-payment mortgage and help cover closing costs.
- FHA loans: Mortgages insured by the Federal Housing Administration allow down payments as low as 3.5%. FHA-insured loans are more forgiving of low credit scores, but you pay for mortgage insurance for the life of the loan.
- Conventional loans with 3% down: Some borrowers may qualify for conventional loans, which aren’t insured by the government, that allow down payments as low as 3%. The mortgages generally are for first-time or low- to moderate-income borrowers. These loans charge for private mortgage insurance, or PMI, which can be canceled after you have 20% or more in equity.
6. How do I compare?
Here are tips for comparing loan offers:
- Apply for a mortgage with multiple lenders. The more you shop, the more you save. A 2018 Freddie Mac report concluded that a borrower comparison-shopping five lenders can expect to save 0.166% on the mortgage interest rate over a borrower who applies with just one lender. On a typical mortgage, that lower rate would translate into more than $400 in interest savings in the loan’s first 12 months. And consider applying with different types of lenders, such as banks, credit unions and online lenders.
» MORE: Find the best mortgage lender for you
- Shop for loans within a set window of time. The three big credit bureaus encourage you to shop around. You have 14 to 45 days, depending on the scoring model, to apply for as many mortgages as you want with the same effect on your credit scores as applying for one loan.
» MORE: How credit score affects your mortgage rate
- Compare closing costs using the Loan Estimates. Each lender is required to provide a Loan Estimate form with details of each loan’s terms and fees. The Loan Estimate is designed to simplify the task of comparing mortgage offers.
» MORE: All about mortgage closing costs