What is a conventional loan?
A conventional loan is a type of mortgage that does not come with federal government backing—meaning the government does not provide the lender with financial protections if a borrower defaults on their loan. That means conventional loans are an inherently riskier investment than their government-backed counterparts. And that means they tend to come with more stringent requirements if you want to get approved.
Although conventional loans are not backed by the government, they operate on a set of guidelines prescribed by two government-sponsored entities: the Federal National Mortgage Association (more commonly known as “Fannie Mae”) and the Federal Home Loan Mortgage Corporation (also known as “Freddie Mac”). Both Fannie Mae and Freddie Mac purchase loans from lenders to keep the mortgage market stable and help make loans easier for consumers to obtain. So, it makes sense that they’re the ones that set the guidelines for all lenders to follow when deciding whether to approve a loan.
Behind the scenes, lenders typically sell these mortgages that they’ve created (or, in mortgage language, “originated”) so they can continue to create more. Because hundreds and thousands of mortgages are often repackaged as investment vehicles for banks and big financial institutions, the lending guidelines set up by Fannie Mae and Freddie Mac help identify a loan’s general risk level to reduce its volatility as an investment.
What are the basic FNMA Conventional loan parameters? Here are the basic program requirements as far as down payment based on loan type. The first column is transaction by type, the second column is the number of units, and the last column is Loan to Value based on Loan Type, FRM for FIXED Rate Mortgage, and ARM for Adjustable-Rate Mortgage.
The next set of loan program parameters are for Home Style Renovation loans, Second Homes, Manufactured homes, and Home Ready loans.
Conventional loan credit score requirements
In most cases, conventional loans require a credit score of 620 or higher. Lenders also look for excessive debt or certain negative events on your credit report, such as a bankruptcy or missed payments—which may make it harder for you to qualify for a conventional loan.
Conventional loan employment requirements
As part of the conventional loan application process, lenders usually ask for at least 2 years of your employment history. To make sure you can afford your mortgage, they want to confirm that your income has either stayed stable or increased. If you have unexplainable gaps or lapses in employment, your lender may ask for additional information to mitigate any risks for defaulting on your loan and to verify that you will be able to make your monthly mortgage payments.
Conventional loan asset requirements
Conventional loan lenders will also review your assets, i.e. the amounts you have in your checking, savings, and retirement accounts. When you’re buying a home, lenders look for these assets to prove that you have sufficient funds to close on the home. But they also want to be sure you’re not completely liquidating your funds as a new homeowner. Lenders need to know you have enough savings in reserves to cover your mortgage payments temporarily in the event of a sudden, unforeseen loss of income. How much you’ll need can depend on your property type—whether it’s your primary residence, second home or investment property.
Normally, you’ll be asked to share your asset details by providing your most recent statements of any accounts where you hold money. With few exceptions, the funds used to purchase a home or used as verified assets in a refinance must be “seasoned,” meaning they must have been in your account for at least 60 days. This rule helps to show whether funds used by borrowers were not suddenly borrowed or received just to secure the mortgage. Seasoning requirements also aim to cut down on questionable or even fraudulent large deposits.
If funds are borrowed to meet closing requirements, then the amount borrowed for the loan must be disclosed and the resulting debt-to-income ratio must be within required limits. Conversely, if funds are received without the expectation that they need to be paid back, then the source of the funds must be disclosed. For example, if you received gift funds from a parent or relative, then a gift letter from the donor and verification of the gift funds transfer is required. Other circumstances where you experienced a windfall of cash would also have to be verified—for instance, if you won lottery money or withdrew or transferred cash from savings or trust accounts to close on your new home.
Cash on hand, sometimes called “mattress money,” is not acceptable as a form of assets because there is no way to verify how or when it was obtained.
Conventional loan property requirements
You can obtain a conventional loan for a purchase or refinance of almost any property type, whether it’s new construction, an investment property, or even a distressed property, like foreclosure or short sale.
For conventional loans, properties generally must meet certain qualifying guidelines during an appraisal. These conditions have to do with the condition of the property. Basically, all major systems must be in working order.
What if I don’t think I’ll qualify for a conventional mortgage?
If the qualifying guidelines for a conventional loan seems out of reach, there are potentially grants available for low-income and first-time homebuyers, which can help you cover your down payment or closing costs. Another option is to consider adding a co-borrower to your loan application. If you have any questions, we can help. Keep in mind these are just the basic guidelines. Just click apply now to be connected with a Licensed Loan Officer who can explain everything in more detail.
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