One of the most popular types of mortgage is a conforming loan. It’s a good idea to become familiar with what this kind of mortgage is and what it could mean for you if you’re looking for a new home in Albuquerque.
The Basics
Freddie Mac or Fannie Mae can purchase conforming loans if they meet their standards. These standards include limits on the amount that can be borrowed.
Mortgage-backed securities are prepared by Fannie Mae and Freddie Mac by purchasing conforming loans from lenders and packaging them together. After they are prepared, the securities are sold to investors. Lenders can fund new mortgages when they sell conforming loans.
Fannie Mae and Freddie Mac require conforming properties to meet certain standards before they are considered eligible for purchase. These standards make them easy for investors to buy and sell.
Conforming loans are conventional mortgages that are not backed by the government. These differ from FHA, VA, and USDA loans.
Freddie Mac and Fannie Mae are government-sponsored entities that provide liquidity to the U.S. mortgage market. Generally, Fannie Mae buys mortgages from large banks, while Freddie Mac works with private banks and credit unions.
You don’t work directly with either of them. Until you receive the investor letter, you do not know your loan is being sold, but that does not affect you in any way. Your payments are still being made to the same entity.
The Standards for a Conforming Loan
The following are the current standards for conforming loans:
- The loan limit is $647,000 for single-family homes in most markets, and the limit is $970,800 in higher-cost areas.
- Your credit score has to be at least 620.
- The ideal debt-to-income ratio should be 36% or less.
- In order to obtain a conforming loan, lenders prefer that you put at least 20% down on a purchase or 20% equity on a refinance. Some conventional loans can be backed by Fannie Mae and Freddie Mac with as little as 3% down.
- In most cases, the loan-to-value ratio (LTV) should be 80% or lower, but the maximum LTV can range from 95-97% if you’re a first-time homebuyer or if it’s an adjustable or fixed-rate loan.
With a down payment of less than 20%, you can qualify for a conforming loan, but you’ll have to pay private mortgage insurance (PMI).
What is a Nonconforming Loan?
Nonconforming loans include conventional mortgages that exceed loan limits or underwrite outside of Fannie Mae and Freddie Mac’s guidelines. Nonconforming mortgage terms vary from lender to lender. Since mortgages are riskier from the lender’s perspective, their interest rates tend to be higher.
An jumbo loan is a type of non-conforming loan that is used for properties that are more expensive than what borrowers can afford while still remaining within the conforming loan limits.
A jumbo loan has more stringent requirements. The down payment requirement is usually at least 20%, credit criteria is stricter, your income is scrutinized more, and the interest rate is higher.
Loans may be deemed nonconforming if the borrower has a low credit score or is making a down payment of less than 20%, although these factors do not always indicate a nonconforming loan.
What Are the Pros and Cons of Nonconforming Loans?
The pros of conforming loans from the perspective of a borrower include:
- Making a 20% down payment means borrowing less money and having more equity in your home. Your monthly fees can be lower than those of a mortgage where less money is put down.
- If you put down at least 30%, you can avoid paying PMI, which could save you a few hundred dollars a month, depending on your loan amount.
- Lenders will likely offer the lowest monthly payments to borrowers who put down 20% and have good credit.
A conforming loan also has the downside that you must meet the standards for your DTI ratio. DTI ratios usually max out at 36%, though they can go as high as 50% if you have other compensating factors, such as a high credit score.
Particularly if you’re in a high-priced market, your dream home might easily exceed your loan limit, so this is also something to consider.
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