A conventional mortgage loan is a “conforming” loan, which simply means that it meets the requirements for Fannie Mae or Freddie Mac. Fannie Mae and Freddie Mac are government-sponsored enterprises that purchase mortgages from lenders and sell them to investors. This frees up lenders’ funds so they can get more qualified buyers into homes.
One type of common non-conforming mortgage is a jumbo loan, which is a mortgage that exceeds conforming loan limits.
Because there are several different sets of guidelines that fall under the umbrella of “conventional loans,” there’s no single set of requirements for borrowers. However, in general, conventional loans have stricter credit requirements than government-backed loans like FHA loans.
It’s possible for first-time home buyers to get a conventional mortgage with a down payment as low as 3%. However, the down payment requirement can vary based on your personal situation and the type of loan or property you’re getting:
If you’re refinancing a conventional loan, you’ll need more than 3% equity. In all cases, you’ll need at least 5% equity. If you’re doing a cash-out refinance, you’ll need to leave at least 20% equity in the home.
A mortgage calculator can help you figure out how your down payment amount will affect your future monthly payments.
If you put down less than 20% on a conventional loan, you’ll be required to pay for private mortgage insurance (PMI). PMI protects your mortgage investors in case you default on your loan. The cost for PMI varies based on your loan type, your credit score and the size of your down payment.
PMI is usually 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 upfront fee included in their closing costs. Others pay it in the form of a slightly higher interest rate. Choosing how to pay for PMI is a matter of running the numbers to figure out which option is the cheapest for you.
The nice thing about PMI is that it won’t be part of your loan forever – that is, you won’t have to refinance to get rid of it. When you reach 20% equity in the home on your regular mortgage payment schedule, you can ask your lender to remove the PMI from your mortgage payments.
If you reach 20% equity as a result of your home increasing in value, you can contact your lender for a new appraisal so they can use the new value to recalculate your PMI requirement. Once you reach 22% equity in the home, your lender will automatically remove PMI from your loan.
Let’s take a look at how conventional loans compare to some other popular loan options.
While conventional loans are available to anyone who can meet the requirements, VA loans are a benefit of military service, only available to veterans, active-duty servicemembers and their surviving spouses.
The requirements for VA loans are similar to that of conventional loans. VA loans, however, come with a few excellent benefits.
First, VA loans don’t require a down payment. Second, VA loans never require you to pay mortgage insurance.
If you’re thinking about getting a VA loan instead of a conventional loan, here are a few things to consider:
Conventional Loans 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 500 with a 10% minimum down payment. Credit scores above 580 only require a minimum down payment of 3.5%. While conventional loans offer a slightly smaller down payment (3%), you must have a credit score of at least 620 to qualify.
When you’re deciding between a conventional loan versus an FHA loan, it’s important to consider the cost of mortgage insurance. If you put less than 10% down on an FHA loan, you’ll have to pay a mortgage insurance premium for the life of the loan – regardless of how much equity you have. On the other hand, you won’t have to pay private mortgage insurance on a conventional loan once you reach 20% equity.
While conventional loans are available in all areas of the country, USDA loans* can only be used to purchase properties in qualifying rural areas. Those who qualify for a USDA loan may find that it’s a very affordable loan compared to other loan options. Although Rocket Mortgage doesn’t offer USDA loans currently, we’re providing this information to you to help you understand all of your choices for mortgages.
There’s no maximum income for a conventional loan, but USDA loans have income limits that vary based on the city and state where you’re buying the home. When evaluating your eligibility for a USDA loan, your lender will consider the incomes of everyone in the household – not just the people on the loan.
USDA loans don’t require borrowers to pay private mortgage insurance (PMI), but they do require borrowers to pay a guarantee fee, which is similar to PMI. If you pay it upfront, the fee is 1% of the total loan amount. You also have the option to pay the guarantee fee as part of your monthly payment. The guarantee fee is usually more affordable than PMI