Conventional Loans Explained
Conventional mortgages are loans not insured by a government entity, such as FHA or VA.
Conforming mortgages “conform” to the guidelines set forth by Fannie Mae and Freddie Mac. You hear these names a lot, but who are “Fannie and Freddie?
• Both Fannie Mae (Federal National Mortgage Association “FNMA”) and Freddie Mac (Federal Home Loan Mortgage Corporation “FHLMC”) are government sponsored entities.
• They purchase mortgages from lenders, which frees up their supply of capital, so lenders can fund more loans. The lender funds the loan with their own money, then the loan is sold to Fannie Mae or Freddie Mac.
• There are subtle guideline differences between the FNMA and FHLMC, so there are situations where one will purchase a loan that the other will not. An experienced mortgage broker can figure out how to get a loan approved that may have been turned down by another lender if they were unaware of the different capabilities of FNMA vs FHLMC.
• Nationwide 2018 Conforming Loan Limits are $453,100 and adjusted for high cost areas. The loan limit for San Diego is $649,750, and Los Angeles is $679,650. Loan amounts over $453,100 up to the county limit in high cost counties are “high balance conforming” loans.
Down Payment Requirements:
• The "ideal" conforming loan is an 80% loan with a 20% down payment, but you can get a conforming loan by only putting 3% down and 5% down for a high balance loan.
• Anything less than 20% down requires Private Mortgage Insurance (PMI) or Lender Paid Mortgage Insurance (LPMI) which reduces the risk for the lender, as it “covers the difference” and insures the loan equal to a 20% down payment.
• The smaller the down payment the more risk for the lender, as the borrower isn’t as invested in the property. Check out PMI Explained to learn more.
Impound Account – Conventional Loan Requirement When Down Payment is Less Than 20%
An impound account is a savings account. They are your funds held by the lender for the specific purpose of paying your property taxes and hazard insurance. You pay into this account monthly with your principal and interest payment. It’s also known as an escrow account.
• 1/12 of the annual property tax and insurance premium is collected with your mortgage payment.
• Your lender pays your insurance and tax installments directly to the county tax collector and your homeowner’s insurance company on your behalf when due.
• Depending on the month you close your loan, to ensure there is enough to pay the next tax installment due, the amount of funds required to set up this account may be higher based on the due date of the next property tax installment.
• Most borrowers opt to have an impound account, even when it’s not required, for the convenience of paying the monthly amount, verses saving and paying large lump sums when due.
There are a handful of different loan terms offered that are specific to a fixed rate conventional mortgage. The most common being 15, 20 and 30 year terms.
• With a 30 year fixed loan, you’ll repay the loan in 360 monthly payments. This is the most popular choice.
• 15 and 20 year fixed rate mortgages offer shorter loan terms that allow you to pay off your home and build equity faster. The 15 year fixed is the 2nd most popular term.
• The shorter the loan term, the lower the interest rate, as compared to a 30 year fixed; However, even though the interest rate is lower, the monthly payment is higher since it’s is repaid in 180 or 240 monthly payments.
• On a $500,000 loan amount at 4% the monthly payment on a 30 year fixed is $2,429 compared to the payment of a 15 year fixed of $3,763.