This year you’re finally ready to buy your home. But where to start? Where it’s your first time or you’re an experience home buyer, all the mortgage options out there can be overwhelming.
If you’re on the hunt for a mortgage, you might want to consider a conventional loan. But there are a ton of different types of conventional loans, so which is the right one for you? We’re here to break down conventional loans so you can decide if it’s the right choice for you.
What Is a Conventional Loan?
A conventional loan—also called a conventional mortgage—is one that’s not guaranteed in part or fully by the government. Conventional loans are offered by private lenders and may be secured by Freddie Mac or Fannie Mac. And while those might sound like government entities, they’re actually government-sponsored entities. We know it’s confusing—but stick with us. We’ll break it down for you.
Conventional Loan vs. FHA Loan
Now that you know what a conventional loan is, you might be wondering about FHA loans. And what’s the differencebetween the two? An FHA loan is backed by the government. So if you don’t make your payments, the lender can recoup some of its losses. Because of that, FHA loans come with less rigorous credit requirements than most conventional loans do.
Types of Conventional Loans
Conventional loans come in a wide range of types. Here are the more common ones:
- Conforming mortgage loans. These are loans that meet the standards of Freddie Mac or Fannie May. One of the major requirements is that the loan isn’t more than a certain amount. The agencies announce conforming loan limits annually. In most locations, it’s $510,400 for 2020, with allowances for up to $765,600 in high-cost areas.
- Jumbo mortgage loans. These are mortgages that exceed conforming loan limits. Typically, you need higher credit scores and income to be approved for these bigger loans.
- Subprime conventional loans. These mortgages may be available for those who don’t quite meet credit and financial requirements for a conforming mortgage loan. To make up for the greater risk, lenders may charge higher interest or fees.
Within every category of loan there are options, including fixed or variable interest and terms. You will need to decide, for example, if you want to pay your mortgage off over 15 years or 30 years. The former comes with cost savings related to interest while the latter offers a lower monthly payment.
Advantages of Conventional Loans
If you have good credit, conventional loans may offer you the best deal depending on what current interest rates are. This is especially true if you can afford to put 20% down—then you can avoid paying for private mortgage insurance in many cases.
Conventional loans can be more flexible than FHA or other government-backed loans. Lenders who offer these loans don’t have to follow specific government guidelines, which means they may be able to work with borrowers who don’t fit those requirements. They can also provide mortgages for properties that are more expensive.
Disadvantages of Conventional Loans
Conventional loans generally come with a higher bar for approval. That’s because they’re not guaranteed, and the lender is taking on all of the risk. You may need a higher credit score and stronger debt-to-income ratio to qualify for these loans.
While you can get a conventional loan with a relatively low down payment, you usually won’t get the best interest rate and will have to pay private mortgage insurance (PMI). Conventional loans typically work better for those who can put a decent amount down.
Conventional Loan Requirements
Requirements for conventional loans vary by lender, but you typically need to demonstrate credit-worthiness and the ability to make your payment every month. Here are some things that conventional mortgage loan lenders might look at:
- Your credit score. In many cases, the bottom cut-off for conventional loan approvals is a credit score of 620. Though depending on other factors, such as the amount of the mortgage and your income, you may need a higher score to qualify.
- Your credit history. Mortgage lenders may look more in-depth at your credit than other lenders, and you may be asked to clear up old accounts or negative items before final approval.
- Your income and debt. The lender wants to ensure that you’re able to pay the required monthly amount. They’ll look at how much you make, as well as how much debt you already have—the ratio of your debt to your income. If your debt is already taking up a large chunk of your income every month, you’re less likely to be able to pay a mortgage and less likely to get approved.
- The value of the home. Typically, banks won’t approve a loan that’s for more than the value of the home in question. You usually have to get a property appraised before a mortgage can be finalized for this reason.
Shop for a Conventional Mortgage Loan Online
Start your mortgage journey by ensuring your credit is in order. You can get your credit report free at AnnualCreditReport.com. If you want to see some of the same credit scores mortgage companies are likely to check, consider signing up for ExtraCredit, which provides access to 28 of your FICO®Scores from different models.
Next, you may want to get pre-approved for a mortgage. This can help you understand what your buying power might be and what type of interest rate you might qualify for. It’ll also show sellers that you’re a serious buyer.
Finally, start searching for a mortgage that’s right for you online. Check out rates and potential mortgage options right here on Credit.com.