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Finding the Right Loan: Mortgages, Penalties and Perks

When preparing to purchase a new home—maybe even your first home—it’s important to understand the different types of mortgage loans available to you. Each type has its own stipulations, and not all of them may apply to your financial situation.

Fixed-rate Mortgage: A fixed-rate mortgage term is generally 15, 20 or 30 years long. You pay the same interest rate the entire length of the loan—this means the monthly principal and interest payment amount remain constant for the life of your loan, and you don’t have to worry about rising mortgage rates. Interest rates are slightly higher than adjustable-rate mortgages (ARM). This rate is best if you plan to stay in your home at least five years.

Adjustable-rate Mortgage (ARM): ARMs are available in 5-, 7- and 10-year fixed-rate periods with a 30-year term only. At the end of the fixed-rate period, if interest rates go up or down, your payments will change at each scheduled adjustment date. Note: In most cases, there are rate caps to limit the amount your interest rate can go up or down.

An ARM generally offers a lower rate than a fixed-rate loan during the initial fixed-rate period, but that can increase. You save money initially, and an ARM may help you qualify for a more expensive home. This rate is best for buyers who know they’ll sell within five to 10 years.

15-Year vs. 30-Year Loans: Before choosing a lender, ask yourself this question: 15 or 30 years? The 15-year mortgage requires higher monthly payments, but builds equity faster. The 30-year mortgage has lower monthly payments, yet ultimately costs more. The lower interest rate and shortened term make the loans cheaper by lowering the overall interest bill. But the decision isn’t always simple.

Prepayment Penalties

Be sure to ask your lender about prepayment penalties. Although La Cap does not penalize its borrowers for paying off home loans early, some lenders do factor prepayment penalties into their loans, usually between 2 and 4 percent of the loan. 

Borrowers who are required to sign disclosures about the penalties often don’t notice them in the stack of papers they sign at closing. It is up to you to make sure your loan does not have these penalties, especially if there is a chance you might pay it off early.

Discount Points

A lot of customers—especially first-time home buyers—don’t understand the concept of discount points and may feel reluctant to ask. Discount points—often referred to just as points—are a type of prepaid interest that you can purchase based on the loan size, not the purchase price. You receive a reduction in the interest rate in exchange for paying discount points. You end up with a lower monthly mortgage payment.

Each discount point generally costs 1% of the total loan amount and may lower your interest rate by one-eighth to one and one-quarter percentage point. Discount points are tax deductible only for the year in which they were paid. For example, each point would cost $2,000 on a $200,000 loan. If the interest rate on the mortgage is 5% and each point lowers the interest rate by 0.25%, buying 2 points will cost $4,000. The interest rate would then be 4.50% APR. Borrowers benefit from buying discount points only if they plan to hold onto the mortgage long enough to save money from the decreased interest payments.

Which Loan is Right for You?

Overall, you should also consider how the loan fits into your broader financial plan. Be wary of lenders who push the longer loan aggressively for tax reasons. It’s true a 30-year borrower will generally get larger tax deductions than a 15-year borrower, but that’s because the 30-year customer pays more tax-deductible interest in the long run. If you do opt for a 30-year mortgage, nothing prevents you from paying that long-term loan like it’s a short-term one, by adding more to your monthly payments. 

Your La Cap representative can help you weigh the benefits of each type of loan to make the decision that’s right for you and your family. Contact us if you have any questions about the mortgage application process and lending details.

Learn More About Mortgage Loans with La Cap

APR = Annual Percentage Rate.

We make loans to qualified creditworthy members. Equal housing lender. NMLS #411413.

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