What Is A Conventional Loan?
A conventional loan is any loan that is is not guaranteed or insured by a government. In the United States of America this generally means the Federal government. Most state and local governments don’t have guarantee or insurance programs.
Categories Of Conventional Loans
There are two categories of conventional loans:
- Conforming – This is any loan which follows the guidelines laid out by Fannie Mae or Freddie Mac. Fannie Mae and Freddie Mac are “quasi-governmental” corporations which, while legally public companies, are actually setup and operated by law or administrative rules established by law.
- Non-Conforming – This is any loan which does not meet Fannie Mae or Freddie Mac guidelines.
There is no law that I am aware of that requires lenders to provide conforming or non-conforming loans. It is a matter that is regulated by the market place. Non-conforming loans popup in a market for primarily two reasons.
Conventional Loan Competition
First, there isn’t a lot of competition between lenders in an area.
Or, second, the lender may actually be offering a better deal than is available under conforming loans in your area.
Be sure to check it out before you arbitrarily blow-off a lender offering a non-conforming loan.
Mortgage lenders can be very sensitive about competitive pressures and you can often spin this to your advantage by threatening to take your business elsewhere. It can help to clearly state what you want and why that may be in your preferred lender’s interest. Loan officers may have more flexibility than they are willing to admit.
Loan Networks such as Lending Tree are providing the borrower with the capability to get mortgage money outside of their local area. This fact puts a lot of pressure on local or regional mortgage lenders to be competitive.
Types of Conventional Loans
Within each category there are really only two types of conventional loans:
- A loan for the purchase of a home or other property; and,
- A loan to refinance a home or other property.
Construction Loans & Conventional Loans
Technically, a construction loan is not a conventional loan because it is short term and for a specific purpose. There are two type.
First, the creation of a structure on a property for which you usually will be obtaining a mortgage loan. Of course, if you have a lot of cash, you may want to pay off the construction loan and own the property “free and clear” of a mortgage.
Second, to renovate an existing structure on a property. While it may be separate from your mortgage, frequently, it is handled either as a refi (refinance) or will be taken from the equity and become a second mortgage on your property.
Sometimes construction loans are seamlessly combined with a mortgage loan to make it possible to purchase and renovate or purchase and build a structure under the “same” loan. Generally, this is a marketing ploy to keep you from approaching another lending institution who might offer you better terms than your current lender is offering you.
Down Payments and Interest Rates
Depending upon the competitive environment and law at the time you apply for your loan you will be required to come up with a down payment of various percentages of the purchase price (usually multiples of 5%; but generally at least 10%) and various interest rates.
As a general rule, the higher the down payment, the lower the interest rate and visa versa.
The down payment and the interest rate may be anything that is allowed by law. FHA and VA loans are frequently a better deal but carry the stigma that they are for “poor” people. This may not be acceptable in some managerial or executive circles.
Conventional Loan Assumptions
Conventional loans may also be assumable. This means that the buyer can “assume” your loan and pick up the payments based upon the terms of the loan. Within assumable there are two sub-types:
- Qualifying – The buyer must “qualify”; i.e. pass a credit check.
- Non-Qualifying – The buyer is not required to qualify.
Problems With Assumptions Of Conventional Loans
There is a major problem with selling a home with a loan assumption. If the buyer or any buyer, for that matter, in the chain of assumptions, defaults, responsibility for the mortgage falls on the previous seller… If that seller defaults… Then, on the seller before that and so forth until responsibility falls on the original seller of the assumption. A very nasty situation.
Conventional Loan Private Mortgage Insurance (PMI)
If you obtain a conventional loan, you may or may not be required to obtain Private Mortgage Insurance (PMI). Most lenders absolutely require this. It protects them in the event of a default by your or your estate. The premiums are usually paid as a part of the escrow portion of your loan payments.
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