What is a Conventional loan? What are some advantages to Conventional loans versus FHA or VA?
What is a Conventional Loan?
Conventional loans are not backed by the government. Instead, guidelines (or rules) are set forth by Fannie Mae and Freddie Mac. There are two primary categories for conventional loans: conforming and non-conforming. Conventional loans can be great options for homeowners as they allow for more flexibility with the down payment, closing costs, private mortgage insurance, and more.
You may be asking yourself; how would I be able to qualify for a conventional loan and why would this program be right for me? While there are different sets of guidelines for different types of conventional loans (ARM or Jumbo), we will focus on conventional conforming loans. There are several important factors within the general requirements to get approved for a conventional loan.
For first-time home buyers, or if you haven’t owned a house in three years, you may be eligible for as low as a 3% down payment. While that may seem unheard of in today’s environment, many new homeowners are taking advantage of this program. If you are not a first-time homebuyer, conventional loans require a minimum down payment of 5%. To assist with the down payment and closing costs, a conventional loan may allow for gift funds. There is no set dollar limit for gifted funds when purchasing a primary (or owner-occupied) property under Freddie Mac’s guidelines, however, Fannie Mae does have specific requirements for gift funds based on your LTV, property type, and occupancy type.
Private Mortgage Insurance (PMI)
Private mortgage insurance is required with conventional loans when your down payment is less than 20% of the property’s value (or if the loan-to-value is over 80%). PMI is a type of insurance that protects the mortgage lender if the borrower defaults on their loan. The most common form of private mortgage insurance is called borrower-paid mortgage insurance, or BPMI. With BPMI, the payment for private mortgage insurance is included with the monthly mortgage payment. One advantage of PMI versus FHA’s mortgage insurance premium is private mortgage insurance is not required for the life-of-the-loan. With PMI, your mortgage insurance payment will be auto-canceled at 78% LTV, or you can request to cancel at 80% LTV.
One important factor with a conventional loan - your credit score. The minimum credit score to qualify for a conventional loan is 620. With conventional loans, you typically see an improvement, or lower rate, as your credit score goes up. The higher the credit score, typically the better the rate. Clients with a credit score of 740 or higher may be able to receive better interest rates when prequalifying for a Loan.
Conventional loans versus FHA or VA
There are several advantages with conventional loans versus FHA or VA loans. Conventional loans offer a wider range of eligible occupancy types such as second homes and investment properties. Conventional loans provide flexibility with mortgage insurance based on down payment (private mortgage insurance not required with 20% or more down), while FHA requires mortgage insurance for the life-of-the-loan or at least 11-years. Also, mortgage insurance with conventional loans allows for the lender to pay for your mortgage insurance upfront – also known as Lender-Paid Mortgage Insurance (or LPMI). Compared to FHA or VA loans, another potential advantage of a conventional loan is the exclusion of certain upfront fees (FHA mortgage insurance premium or VA funding fee). With conventional loans, a first-time homebuyer can put as little as 3% down. FHA requires at least a 3.5% down payment. Consult with a Mortgage Advisor today to find out more about conventional loans.