Conventional mortgages: everything you need to know


Conventional mortgages are a great option for many homeowners because they have lower costs than other popular types of loans. If your credit score and you down payment are high enough, a conventional mortgage might be right for you.


What is a conventional mortgage?


Conventional mortgages are those that are not guaranteed or insured by the federal government.

Most of these mortgages are “conforming,” which just means they qualify for sale to Fannie Mae or Freddie Mac. Fannie Mae and Freddie Mac are government-sponsored companies that buy mortgages from lenders and sell them to investors. This gives lenders more funds so they can help more qualified buyers purchase a home.

Conventional mortgages can also be non-conforming, which means they do not meet Fannie Mae or Freddie Mac guidelines. One type of non-conforming conventional mortgage is a jumbo loan, which is a mortgage that exceeds conforming loan limits.

Since there are different sets of guidelines that are included under the “conventional loan” framework, there is no single set of requirements for borrowers. However, conventional loans often have stricter credit requirements than government-backed loans, such as FHA loans. In most cases, you will need a credit score of at least 620 and a debt-to-income ratio of 50% or less.


Requirements of conventional mortgages


Down payment

First-time home buyers may obtain a conventional mortgage with a down payment of only 3%; However, this requirement may vary depending on your personal situation and the type of loan or property you want to obtain:

  • If you are not a first time home buyer, the requirement of down payment is 5%.
  • If the home you are buying is not a single-family home (that is, it has more than one unit), you may have to pay 15%.
  • If you are buying a second home, you must make a down payment of at least 10%.
  • For an adjustable rate mortgage, the requirement of down payment is 5%.
  • If you want a jumbo loan, this requirement varies between 10% and 40%.

If you are thinking of refinancing, you will need more than 3% of your home equity to do so. In all cases, the minimum capital requirement is 5%. For a cash outlay refinance, you must leave at least 20% of the equity in the home.

A mortgage calculator can help you know how the amount of your down payment it will affect your monthly payments in the future.

Private mortgage insurance

If you do a down payment of less than 20% in a conventional loan, you will have to pay a private mortgage insurance (PMI). PMI protects your lender in the event that you default on your loan. The cost of PMI varies depending on the type of loan, your credit score, and the amount of the loan. down payment.

PMI is typically paid as part of your monthly mortgage payment, but there are other ways to cover the cost as well. Some buyers pay it as an advance charge. Others pay it at a slightly higher interest rate. To choose how to pay PMI, you just have to do the math to determine which option is the least expensive for you.

The good thing about PMI is that it will not be part of your loan forever, that is, you will not have to refinance to get rid of it. When you reach 20% of your home’s equity based on your normal mortgage payment schedule, you can ask your lender to remove the PMI from these payments. If you reach 20% of the principal due to the increase in the value of your home, you can contact your lender to obtain a new appraisal, so they can use the new value to recalculate the PMI requirement.

When you reach 22% of the home equity, your lender will automatically remove the PMI from your loan.

Other requirements

  • Credit score: In most cases, you will need a credit score of at least 620 to qualify for a conventional loan.
  • Debt to income ratio:Your debt-to-income ratio (DTI) is a percentage that represents how much of your monthly income goes to paying debts. To calculate your DTI, add up the minimum monthly payments on all of your debts (such as student loans, car loans, and credit cards) and divide by your gross monthly income. For most conventional loans, your DTI should be 50% or less.
  • Loan amount:For a conforming conventional loan, your loan must be within the loan limits set by Fannie Mae and Freddie Mac. The loan limit changes every year; the 2020 price is $ 510,400. In 2021, the limit will increase to $ 548,250. However, there are exceptions. Alaska, Hawaii, and high-cost areas of the country have higher loan limits, reaching as high as $ 765,600 in 2020. Loan limits for Alaska, Hawaii, and high-cost areas of the country will increase to $ 822,375 in 2021. To see the limits for loans in your area, visit the Federal Housing Finance Agency website.


How is a conventional mortgage different from other types of loans?


Let’s take a look at how conventional loans compare to some other popular loan options.

Conventional vs. VA loans

While any eligible person can get a conventional loan, only veterans, active duty military personnel, and their surviving spouses can access VA loans.

The requirements for VA loans are similar to those for conventional loans. However, VA loans have some extra benefits. First, there is no requirement down payment for VA loans. Second, you will not have to pay for mortgage insurance, regardless of your down payment.

If you are considering getting a VA loan instead of a conventional loan, here are some things to keep in mind:

  • You cannot use a VA loan to buy a second home. The Department of Veterans Affairs only guarantees a certain dollar amount for each borrower, so generally you cannot have more than one VA loan at a time.
  • You will have to pay a financing fee. This fee offsets the cost of obtaining the VA loan for taxpayers. Some groups (surviving spouses, people who receive VA disability benefits, and those who received the Purple Heart for active duty) are exempt from the financing fee, but most must pay it. The financing fee varies between 1.25% and 3.3% of the loan amount, depending on the down payment, the body you served on, and whether the loan will be used to buy a home or refinance.

Conventional vs. FHA loans

Conventional loans have stricter credit requirements than FHA loans. FHA loans, which are backed by the Federal Housing Administration, offer the ability to get approved with a credit score as low as 580 and a down payment 3.5% minimum. Although you can get a conventional loan with a down payment just below 3%, you must have a credit score of at least 620 to qualify.

When deciding between a conventional loan and an FHA loan, it is important to consider the cost of mortgage insurance. If you pay less than 10% like down payment On an FHA loan, you will have to pay a mortgage insurance premium over the life of the loan, regardless of how much equity you accumulate. On the other hand, you will not have to pay for private mortgage insurance on a conventional loan when you reach 20% of the equity in the home.

Conventional vs. USDA loans

Although conventional loans are available nationwide, USDA loans can only be used to purchase properties in eligible rural areas. People who qualify for a USDA loan may find it to be a very affordable loan compared to other loan options.

There is no maximum income requirement for a conventional loan, but USDA loans have income limits that vary by city and state where you buy the home. When evaluating your eligibility for a USDA loan, your lender will consider the income of the entire household, not just the people who will be on the loan.

Borrowers are not required to pay for private mortgage insurance (PMI) for USDA loans, but will be required to pay a guarantee fee, which is similar to PMI. If you pay it in advance, the charge will be 1% of the total amount of the loan. You also have the option to pay the guarantee fee in your monthly payment. This rate is usually more affordable than the PMI.


What are the rates of a conventional mortgage?


Interest rates on conventional mortgages change every day. In general, the interest rates on a conventional mortgage are slightly lower than the interest rates on FHA loans and slightly higher than those on VA loans. However, the interest rate you get will be based on your personal situation.

Although many sites can give you an estimate of the interest rates of a conventional loan, the best way to know the real interest rate of a mortgage is to apply. If you apply to Rocket Mortgage® by Quicken Loans®, you will be able to see your real interest rate and what you will have to pay without obligation.


Summary


Conventional loans generally offer lower costs than other types of loans, and if you meet the credit score requirements and have a down payment of at least 3%, a conventional mortgage could be the best solution for you. Rocket Mortgage® by Quicken Loans® can help you decide if this is the best option for your situation.


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