There are two basic types of mortgages: fixed-rate mortgages and adjustable-rate mortgages (ARM). Both have multiple variations.
The fixed-rate mortgage is what most people consider the traditional mortgage. The mortgage is usually for 30-years, and as the name suggests, has a fixed interest rate. This was once the only mortgage available. The fixed interest rate allows borrowers and lenders a measure of predictability.
The 15-year fixed-rate mortgage is similar except the term is shorter, making this mortgage popular with those who want to pay off the loan in 15 years and pay less in total interest. The downside? Monthly payment amounts are higher that a longer term mortgage.
Adjustable-rate mortgage (ARM)
The major difference between the ARM and the fixed-rate mortgage is the interest rate calculation. The interest rate can change over time, either increasing or decreasing, rather than staying constant.
Risks: With ARM's, the borrower assumes the risk of interest rate increases in exchange for lower initial rates and lower initial mortgage payments. The lender takes a risk as well by offering loans knowing that the borrower may not be able to make future payments if the rates go up. Should this happen, the lender is forced to foreclose and to resell the house at a potential loss.
Thanks to the subprime housing crises, (of which ARM's share a large part of the responsibility); these may not be available to everyone.
Other types of mortgage loans have limited availability but may be appropriate in specific circumstances.
This type of loan requires the borrower to pay only the interest. These lower payments appeal to homebuyers because of the lower monthly payments. However with no money going toward the principal, no equity is created. The interest only term is usually for a limited time; once that term expires, a lump sum payment, refinance or higher monthly payments are required.
The most common reason for these is to allow borrowers, who plan to move in a short amount of time or are expecting their income level to increase sharply, to purchase property.
These are only available to homeowners age 62 or older. A reverse mortgage creates an income stream from the equity of the house. As with other mortgages, the property is the collateral. However, a reverse mortgage does not need to be paid back until the homeowner dies, sells the property or moves out the home.
Reverse mortgage income is advertised as a way to supplement a fixed income. However, the AARP warns seniors that reverse mortgages tend to be more costly than other mortgages. The AARP advises seniors to look into home equity loans or home equity lines of credit as alternatives if income is needed.