How to choose the best mortgage lender

When you’re trying to choose the best mortgage lender, it’s important to remember that one size does not fit all.

So how do you find the right one for you? The homebuying process can seem overwhelming. For most people, it’s the biggest financial purchase of their lives. You’ll want to take stock of your financial situation and loan options, and then compare lenders to see who offers the most-attractive potential rates and terms.

Here are the steps to choosing the best mortgage:

• Step 1: Assess your financial situation
• Step 2: Consider loan options
• Step 3: Ask the lender about loan costs and fees
• Step 4: Compare lenders and estimates

Step 1: Assess your financial situation

How much house do you need? What down payment can you afford to make? How will a mortgage payment affect your monthly budget? These are issues to think about when taking stock of your finances. Having a thorough understanding of your own situation can help you ask lenders more-informed questions when the time is right.

You’ll also want to think about where you want to live and then research property taxes and homeowners’ insurance expenses. These costs are typically included in calculations of your monthly mortgage payments and can vary depending on location.      

Keep in mind that some costs of your loan will depend on your choices and finances. For example, you’ll typically have to pay for private mortgage insurance, or PMI.

Whether your mortgage has a fixed interest rate or adjustable rate can also affect how much interest you’ll pay during the life of the loan.

Step 2: Consider loan options

There are some basic factors to discuss with a lender when comparing loan options: the type of loan, the interest rate and the loan term.

Loan types

You may be able to choose from conventional loans, FHA loans or other types of government-backed home loans. You’ll want to ask lenders about the specific features you want from your mortgage — such as a low down payment, the ability to finance certain closing costs — and how the following mortgage loan types might work best with your needs.    

• Conventional loans — These mortgages typically aren’t part of a specific government program, and can be conforming loans (at or below the county loan limit) or “jumbo” loans that exceed those limits.          
• FHA loans — These mortgages are insured by the Federal Housing Administration. They allow for smaller down payments and are worth considering for people with shakier credit. FHA loans typically include a lender’s origination fee as part of the closing costs, as well as an upfront mortgage insurance premium.    
• VA loans — These loans can be a strong option for people who qualify. They typically require no down payment, though they have a VA loan funding fee.
• USDA loans — This may be an option if you live in a rural area and meet certain household income requirements. USDA loans may be available to people with low-to-moderate incomes, and zero-down options may be available.      

Interest rate options

There are two basic types of mortgage interest rates: fixed and adjustable. The right option for you may depend on whether you plan to keep the home for the long term or not. Fixed-rate mortgages are a good choice if you plan to stay in the home a long time.

• Fixed-rate mortgages — These are offered with one rate that stays the same for the duration of the loan term. Fixed-rate mortgages may have a higher interest rate than an adjustable rate mortgage, but fixed-rate loans have more-predictable payments.    
• Adjustable-rate mortgages — An ARM typically has an introductory rate for a fixed period of time, with annual interest rate adjustments over the course of a loan once the introductory rate expires. Your mortgage payments may fluctuate when the rate changes occur, making for a less-predictable mortgage over the term of the loan. Adjustable-rate mortgages may have lower interest and an initial fixed period to start.      
• Hybrid adjustable-rate mortgages — These ARM loans are typically similar to “traditional” adjustable-rate loans but have an important exception. They have the same introductory rate period, but the duration of that rate is longer than a single year. You’ll find lenders offering a variety of options, including 3/1 ARM loans, 5/1, 7/1, etc. (The first number represents the duration of the introductory rate in years; the second number is how long you wait for the adjustment. A 3/1 ARM is one with a three-year fixed rate, with rate adjustments every year following.)          

Loan term    

Loan terms affect how much you pay every month. Your financial situation, needs and overall goals will help you zero in on the best loan term for you.

For instance, if your goal is to save as much interest over the lifetime of the loan as possible (and you’re able to afford higher monthly payments), then a 15-year loan might be a better fit than a 30-year mortgage. But if lower monthly payments are your goal, a 30-year loan might be the better choice.

Check out our home affordability calculator to get some estimates of what may fit in your budget.

Step 3: Ask the lender about loan costs and fees

When comparing lenders, ask about the costs and fees that might affect the cost of your loan — things like closing costs, discount points and prepayment penalties.

Closing costs

Your mortgage lender is required to provide a loan estimate within three business days of receiving your loan application. This form goes over important details about the mortgage, usually including your estimated monthly payment, estimated interest rate and total closing costs for the loan. Those costs may include …

• Down payment
• Appraisal fees
• Pest inspection
• Taxes
• Insurance

Ask a loan officer about these charges to get an estimate of how much you may have to pay on closing day.    

Discount points

Discount points are optional fees you pay upfront to decrease your interest payments over the course of the loan. The amount of the decreased interest rate will vary depending on the lender, the nature of the home loan, and other variables. Typically, you may find reductions at .25% per $1,000, but you’ll need to ask your lender what is offered at that financial institution.    

Generally, the major benefit of buying discount points is to save money over the term of your mortgage. Doing so may be a good idea if it’s in line with your financial goals but you should consider your situation.

For example, it might not be the best idea to pay for points to lower your interest payments if …

• You don’t intend to stay in your home for the long haul.
• You’re planning to refinance down the line.
• You simply don’t have enough money saved at the time of closing, which is when you need to pay for those discount points.

Prepayment penalties

Ask the lender and be sure to read the fine print about any prepayment penalties on your loan. A prepayment penalty may apply if you refinance the loan before the loan term is up, or when you otherwise pay off the loan ahead of schedule.

Loans without a prepayment penalty are a good choice if you think you may refinance the loan at some point.

Step 4: Compare lenders and estimates

Once you’ve assessed your mortgage needs and have an idea about the type of loan you’re looking for, start shopping around for a lender. You may want to look at online marketplaces that can help you compare.

• Interest rates and annual percentage rate
• Closing costs
• Lender fees
• Discount points and prepayment penalties          

Getting multiple offers may give you negotiating power and help you better understand your options. When you compare lenders and their offers side by side, you can see which loan amounts, APR, rates and terms are the best fit for your situation.

You can also calculate the difference in your mortgage and monthly payments between fixed-rate loans versus adjustable-rate loans, and don’t forget to take a close look at lender fees for both options.

When shopping for lenders, ask to speak with a loan representative to help you better understand that bank’s process and get answers. The more transparent a lender is, the better. Is the lender responsive when you have questions? Will it work with you based on your needs?

Try to compare several financial institutions. Compare your potential options based on transparency, responsiveness, and the best rates and terms.

What’s next?

Choosing a mortgage lender is a complex decision. Although the basic interest rate your lender offers is important, you should also consider the APR, closing costs, lender fees and your personal plans, such as how long you plan on staying in your house.

It usually pays to shop around: Mortgage terms vary from lender to lender, with differing rates, terms and transparency. By comparing several before you decide, you’ll give yourself a better chance to make an informed decision about the lender you choose.