What is a conventional loan? The term conventional loan simply means a loan not back by the government. A conventional conforming loan means a loan backed by Fannie Mae or Freddie Mac.
While conventional home loans differ greatly in their terms and available loan sizes, they share similar guidelines that borrowers must satisfy in order to qualify:
Conforming conventional loans comprise the majority of conventional loans, being more advantageous than non-conforming loans in many ways. While you can get a conventional loan with a 620 credit score, unless you have a 20% down payment you will be required to pay for private mortgage insurance (PMI). Having a higher credit score will lower your private mortgage insurance payment.
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Borrowers applying for a conventional loan will need to fill out a 1003 Uniform Residential Loan Application, which will require personal identity verification such as past addresses and social security numbers. Copies of IDs and social security cards are not usually required.
Additionally, borrowers must provide employment history and salary history proven by current pay stubs and 2 years of tax returns. Fluctuating income such as self-employment income, commissions, overtime and tips, as well as part-time income will need to be reflected on 2 years of tax returns before being considered. Profit and loss statements will be required for the self-employed.
The loan-to-value ratio (LTV) represents the comparison of the loan amount to the total value of the property. As such, an 80% loan-to-value ratio means that the loan covers 80% of the cost of the property. Traditionally, conventional loans have an LTV of 80% and include a down payment of 20% of the property cost, although borrowers can circumvent this requirement several ways.
For instance, borrowers with mortgage insurance may qualify for a much lower down payment requirement. The PMI requirement will be waived automatically when LTV reaches 78%, or at 80% if the borrower requests it. Conventional loans can finance up to 95% of a mortgage, meaning that borrowers must put down a minimum of 5% for properties that are single-family residences.
To qualify for a conventional loan, you must have an acceptable debt-to-income ratio (DTI). For instance, your monthly mortgage payments, including taxes, insurance, and other charges, must comprise less than 28% of your gross monthly income. Furthermore, your total debt payments per month, including student loans, car loans, and credit card debt, should not exceed 45% or more than your gross monthly income. With good credit and other strong compensating factors, many lenders will allow a maximum DTI of 50%
Conventional loans allow borrowers to apply the funds toward a variety of different property types, including condos, planned unit developments (townhouses), modular homes, manufactured homes, and up to 4 family residences. Additionally, conventional loans may finance primary residences, secondary homes, and investment properties.
While the guidelines for conforming conventional loans are written by Fannie Mae and Freddie Mac, these companies do not issue loans themselves. Fannie Mae and Freddie Mac purchase eligible conventional conforming loans from lenders on what is called the "secondary market," then bundle them into mortgage-backed securities (MBSs) that they guarantee. You have to get your loan from an actual lender who may have additional rules, known as overlays, on top of the Fannie Mae and Freddie Mac guidelines. The most common overlay concerns credit scores. While Fannie Mae and Freddie Mac guidelines indicate they may buy loans from lenders with a credit score as loan as 620, some lenders will still require at least a 640 credit score for a conventional loan.
Choosing the right loan program and lender can take some time to ensure that it’s the best fit for your unique situation. As such, always set aside an appropriate amount of time to compare lenders and rates; even fractional differences between interest rates could save or cost you hundreds if not thousands of dollars over the life of the loan. Remember, patience and persistence can make all the difference.
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