A conventional loan is a mortgage loan that’s not backed by a government agency. Conventional loans are broken down into “conforming” and “non-conforming” loans.
Conforming conventional loans follow lending rules set by the Federal National Mortgage Association (Fannie Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac). However, some lenders may offer some flexibility with non-conforming conventional loans.
How Is a Conventional Loan Different From a Government-Backed Loan?
Government-insured mortgage loans have special features that can make them a good fit for certain homebuyers. Here’s a quick summary of each option and who might consider it:
FHA loans: These loans allow you to get into a home with a credit score as low as 500 if you have a 10% down payment, or 580 if you have a 3.5% down payment. This may be a good option if your credit score isn’t high enough to qualify for a conventional loan.
VA loans: Backed by the U.S. Department of Veterans Affairs, VA loans are designed for select members of the military community, their spouses and other beneficiaries. They don’t require a down payment and don’t charge private mortgage insurance.
What Are the Types of Conventional Loans?
There are several types of conventional loans that you may come across as you compare lenders and mortgage options. Here are some of the most common ones and how they work.
Conforming Conventional Loans
Conforming conventional loans are loans that adhere to the standards set by Fannie Mae and Freddie Mac, including maximum loan amounts.
Jumbo Conventional Loans
If you want to borrow more than the lending limits for conforming loans, you should look for lenders that specialize in jumbo mortgage loans.
Jumbo loans typically require higher credit scores than conforming loans (700 or higher), and you may also need to have a lower debt-to-income ratio (DTI) and put down a larger down payment.
A portfolio loan is a conventional loan that a lender chooses to keep in its own portfolio rather than selling it on the secondary market
Benefits of Getting a Conventional Loan
Faster Loan Underwriting
Conventional loans can require less paperwork and can be obtained more quickly than government-insured loans. Mortgage lenders can approve conventional loans without the typical delays incurred with FHA or government-backed loans. Also, with a conventional loan, sellers do not face an exhaustive FHA inspection, which sometimes then requires time-consuming repairs.
Conventional loans come in all different types and sizes. Do you want a 10 year fixed mortgage? Looking for an adjustable 7-year term. If so, a conventional loan is the only place to find these options.
Optional Escrow Accounts
A conventional loan also usually offers an option to pay taxes and insurance directly, without adding them to your monthly mortgage payment through an escrow account. If you want the flexibility and freedom to pay taxes and insurance separately, a conventional mortgage is your only option.
Conventional mortgages are usually fixed-rate products, meaning that once an interest rate is locked in, the borrower will keep that same payment for the life of the loan. Borrower’s payments stay the same month to month, whether interest rates climb or housing prices fall. Even if interest rates fall far enough to make refinancing tempting, borrowers have the flexibility with a conventional mortgage because they have already met the tough requirements to get the mortgage.
How to Get a Conventional Loan You Can Afford
Commit to putting at least 10% down. A down payment of 20% is even better because you can avoid PMI! A hefty down payment reduces your monthly payment and ensures you start off with equity in your home.
Stick with a 15-year fixed-rate mortgage. Why a 15-year term? With a 15-year mortgage, your monthly payments will be a little higher, but you’ll save hundreds of thousands of dollars in interest compared to a 30-year mortgage. And choosing a fixed rate means you don’t ever have to worry about your interest rate changing. It’s fixed for the life of the loan.
Make sure your mortgage payment is no more than 25% of your monthly take-home pay. This is the last step and our final piece of advice. When you have a house you can afford, you’ve got flexibility to save for other important financial goals like retirement and your kids’ college.