Are government home loans better than conventional loans?
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UPDATED: Sep 10, 2012
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Government home loans are excellent options for some borrowers, but they are not necessarily better than conventional financing.
While government mortgage loans are insured by the government, conventional financing is not. Even though they’re federally insured, government home loans are not lent by the government. Instead, the government simply guarantees or secures financing so that lenders have reduced risk. Consequently, if borrowers default, the private lender will be compensated by the government.
Government financing has a variety of pros:
– Since government mortgage loans are backed by the federal government, lenders are comfortable with lowering their requirements. That means FHA, USDA, and VA financing have lower standards regarding income, credit history, and employment records. Federal mortgage financing is an excellent option for borrowers that do not have the best credit or highest income.
– An added benefit of government home loans is that they require small down payments compared to conventional financing. This will allow borrowers with fewer savings to be able to afford a home.
– Government home loans usually have competitive interest rates and reduced closing costs, both of which are regulated by the government in an effort to maintain affordability.
– They offer excellent payment assistance options for when times are tough and borrowers wish to avoid foreclosure.
– If borrowers obtain sizable funds they can pay off their government home loan in full at any time.
Borrowers should remember that government mortgage loans usually come with higher monthly payments than conventional financing and often require borrowers to pay private mortgage insurance (PMI). It’s precisely due to this PMI requirement that borrowers tend to only seek government mortgage loans when they are unable to qualify for conventional financing.
Conventional financing—which is not insured by the government—usually allows borrowers to skirt any PMI requirements, which ultimately saves borrowers thousands of dollars over the duration of their financing.
Other conventional financing benefits include the following:
– They only require borrowers to pay PMI if borrowers put less than 20 percent down. Since this is rare, most borrowers will not have to pay mortgage insurance.
– Short sellers are attracted to conventional financing since securing sellers prefer sizable down payments. As a result, all things being equal, offers from conventional borrowers will be given priority over most government loan borrowers.
– Conventional lending can allow for the purchase of larger homes since their borrowers typically have better credit scores than government home loan borrowers.
Unfortunately, conventional financing does have the downside of prepayment penalties. These are intended to penalize borrowers who pay off their loan early since the longer a loan accrues interest the more profit lenders make. Prepayment penalties are usually enforced for no more than five years from the date of origination.
Conventional mortgage lenders and government home loan representatives at the FHA, USDA, and VA can answer more specific borrower concerns and questions. Additionally, borrowers can pursue additional information online, including quotes for government home loans, lender locations, and in-depth tutorials on the borrowing process. These can equip borrowers with the necessary skills to negotiate and select the type of financing that is best for them and their bright future of homeownership.