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What Is a Conventional Mortgage?
A conventional loan or conventional mortgage, is a home buyer’s loan that is not offered or secured by a government entity, such as the FHA or VA. Conventional loans typically meet the down payment and income requirements set by Fannie Mae and Freddie Mac, and they generally conform to the loan limits set by the FHFA, Federal Housing Finance Administration. Conventional mortgage borrowers who put at least 20% down, do not have to pay mortgage insurance. This is typically required with lower down payments or government-backed loans.
Compare Conventional Loans and FHA
Mortgages which are guaranteed by the FHA, or Federal Housing Administration, aim to make buying a home more affordable for low to middle income families, with relaxed lending standards, competitive rates, and down payments that are as low as 3.5%.
VA loans and USDA loans are two other loan programs which are backed by the federal government that have similar aims. VA loans are guaranteed by the U.S. Department of Veterans Affairs and are available to veterans and active military only. The U.S. Department of Agriculture backs USDA loans and are geared toward buyers of rural properties.
Conventional loans are offered by many other lenders that also offer VA, FHA, and USDA loans. They often view conventional mortgages as riskier because they are not guaranteed by the government if the buyer defaults. Therefore, these mortgages can have tougher requirements and higher rates.
Conventional loan borrowers generally make larger down payments than FHA borrowers and they also typically have a more secure financial standing, making them less likely to default on their mortgage payments. The larger the down payment, the lower the monthly payments. And, payments for conventional mortgages that don’t require private mortgage insurance can be much more manageable in comparison to the increasing mortgage premiums on FHA loans.
Finally, with a conventional mortgage, you have the option to cancel your mortgage insurance when the principal loan balance drops to 78% of the value of the home. With an FHA loan, mortgage insurance premiums are charged for the life of the loan.
Credit Scores for Conventional Loans
Depending on the lender, the requirement is typically a 620 credit score minimum to qualify for a conventional mortgage. To get a good mortgage rate, 740 is the minimum credit score you’ll need. The term of a conventional mortgage is generally 15, 20, or 30 years.
Minimum Down Payment for Conventional Loans
In comparison to other types of mortgage loans, a conventional mortgage can require a larger down payment. Conventional lenders have traditionally required as much as 20% for a down payment. However, to compete with the 3.5% minimum down payment option for an FHA loan, lenders can now offer a 3% down payment program. Depending on the lender as well as the borrower’s credit history, down payment requirements tend to vary.
A borrower is often responsible for origination fees, mortgage insurance, and appraisal fees. Therefore, conventional mortgages tend to have higher out-of-pocket costs than other types of mortgages.
Conforming and Nonconforming Loans
Conventional loans fall into two categories: conforming and nonconforming loans.
A conforming loan follows the guidelines set by Fannie Mae and Freddie Mac. The rule has to do with the size of the loan. In 2020, the conforming loan limit for single-family homes is $510,400 in most of the continental U.S. In higher-cost areas like Alaska and Hawaii, the limits are higher, up to $765,600 for single-family homes.
Nonconforming loans, also known as jumbo loans, are for borrowers who do not qualify for a conforming loan because the amount is higher than the conforming limit for the area that they are buying in. Jumbo loans are generally harder to sell on the secondary market because they don’t conform to the guidelines. The higher the amount of money involved also means more risk for the lender.