Conventional Loan

What is a conventional loan?

Conventional loans are growing in popularity thanks to low rates and increasingly flexible guidelines.

A conventional loan is one that is not formally backed by any government entity such as FHA, VA, and USDA. Rather, it is a loan that follows guidelines set by Fannie Mac and Freddie Mae, two agencies that help standardize mortgage lending in the U.S.

Conventional loans are also known as conforming loans because they “conform” to Fannie Mae and Freddie Mac standards.

Does the lack of government backing make conventional loans less desirable? Hardly.

While a conventional mortgage appeals to a wide demographic, it’s especially good for first-time borrowers with decent credit and some amount of down payment.

Like most loans, you have an option about how long you will be paying your mortgage.

Conventional loans come in 15, 20, 25, and thirty-year terms. Some lenders even offer 10-year conventional loans.

The shorter your loan term, the higher your monthly payment. Fortunately, a loan term of 30 years still comes with low fixed interest payments that help home buyers budget and cover the other costs of home ownership.

Conventional loans are also a smart choice for those who know they won’t remain in their house long and want a shorter-term, This option comes with a lower interest rate than that of a fixed-rate loan.

Adjustable rates are in fact fixed, but only for a period of time – usually 3, 5 or 7 years. During that initial “teaser” period, the homeowner pays ultra-low interest and can save thousands.

The glitch here is that if they don’t sell at the end of the loan’s life, the rate adjusts — maybe down, but also maybe up. It’s a gamble that they should discuss with their lender and financial advisor.

Another advantage to conventional loans is the lack of an upfront mortgage insurance fee, even if the buyer puts less than 20 percent down.

FHA loans, plus USDA mortgages and even VA loans require an upfront “funding fee” usually between 1% and 3% of the loan amount.

 

Conventional loans only require a monthly mortgage insurance fee, and only when the homeowner puts down less than 20 percent. Plus, that mortgage insurance cost is often lower than that of government-backed loans.

Conventional loans are actually the least restrictive of all loan types, in some respects.

USDA loans require the property purchased to be in a designated rural area. This is fine for those who live and work in suburban and rural locations. However, for those in major cities, a USDA-eligible home could extend commuting distance beyond what is reasonable.

 are exclusive to current and former military service members. They offer a lot of benefits, like zero down payment and no monthly mortgage insurance. But they are not available to the general population.

 is to refinance out of the FHA loan. This can incur additional costs.

First-time and repeat buyers can land a good value when they choose a conventional loan for their home purchase. And, more buyers qualify for this loan than you might expect.

Many conventional loans are made with as little as 3 percent down.

The HomeReady^TM mortgage program is one such option. It allows non-borrowing members of the household help the actual loan applicant become approved. Lenders will consider the income of mothers, fathers, extended family, and even that of non-married household members, even when they are not officially on the loan file.

The Conventional 97, as the name suggests, allows home buyers to borrow ninety-seven percent of the home’s price. Unlike the HomeReady^TM option, these loans are available to applicants at any income level buying a home in any location.

The drawback to a 3% down loan is that the interest rate may be higher to compensate for the smaller amount down. Mortgage insurance may be more expensive as well, as compared to a five- or ten-percent down conventional loan.

The piggyback 80/10/10 loan option lets the applicant skip the full 20% down payment and mortgage insurance.