Conforming vs. Non-conforming Loans
Who decides what’s conforming and what’s non-conforming? Fannie Mae and Freddie Mac, the two stockholder-owned corporations that purchase mortgage loans from lending institutions. They package the mortgages into securities and sell the securities to investors. By doing so, a continuous flow of affordable funds for home financing results in the availability of mortgage credit for Americans. Fannie Mae and Freddie Mac guidelines also establish the maximum loan amount, borrower credit and income requirements, down payment, and suitable properties.
Non-conforming loans, also known as jumbos, are for borrowers whose situations do not “conform” to strict Fannie Mae/Freddie Mac underwriting guidelines.
Non-conforming loans are much easier to qualify for than conforming loans. They also close faster, have reduced or no reserve requirements, allow expanded use of loan proceeds and provide higher levels of cash out for debt consolidation.
There are many circumstances that might otherwise prevent you from conforming financing, and they include:
- Complicated tax returns
- If you do not wish to disclose or document your income
- High debt ratios
- Current or previous credit difficulties
- If you want to repay federal tax liens
- If you want to recoup equity from your homestead
What if you don’t have any of the above circumstances? Then you’ll most likely qualify for a conforming loan. The most important difference between conforming and non-conforming loans, however, is loan limits. Fannie Mae and Freddie Mac will purchase loans only up to a certain loan limit that changes each year. These loan limits are 50 percent higher for loans made in Alaska, Hawaii, Guam, and the U.S. Virgin Islands. Properties with five or more units are considered commercial properties and are handled under different rules.
The 2002 conforming loan limits are $300,700 for a one-family residence; $384,900 for a two-family residence; $465,200 for a three-family residence; and $578.150 for a four-family residence.
One way to bridge the gap between the conforming limit and a high purchase price is to employ piggyback financing. This involves getting a first mortgage for the conforming limit and make up the difference with a second mortgage. A word of caution, however: You should only do this if you plan to pay off the second mortgage quickly because you’ll be paying a higher interest rate (anywhere from 1-3 percent over the first mortgage rate).