Published: November 19th, 2013
The content below is not an offer or intent to lend and is subject to change.
A conforming loan in the U.S. is a type of conventional mortgage loan that conforms to very specific lending guidelines and is subject to maximum lending limits established by government-sponsored enterprises:
- Federal National Mortgage Association (Fannie Mae), which works with banks and mortgage lenders
- Federal Home Loan Mortgage Corporation (Freddie Mac), which works with savings and loan institutions and credit unions
Government sponsorships allow Fannie Mae and Freddie Mac to borrow money at a lower cost and in larger sums, which reduces the cost of mortgage credit. Ultimately, that savings is passed on to qualified borrowers through lower interest rates and terms.
Conforming loan programs limit lending maximums. Currently, the conforming loan limit per single-unit home across the U.S. tops out at $417,000. In areas of the country with higher home costs, super-conforming loans are available in expensive counties. Conforming loan limits can be adjusted from one year to the next.
Conforming loans are subject to strict guidelines regarding the borrower’s debt-to-income (DTI) ratio. Underwriters are required by law to meet proper documentation and underwriting standards when determining an applicant’s ability to repay. That includes a thorough examination of the applicant’s:
- Work history
- Credit rating and history
- Total debt
- Down payment
- Stocks, bonds, savings, retirement investments, and other assets
- Residence history for the previous two years
Lenders and the economy need borrowers with conforming loans. A qualified borrower enters into an approved mortgage that is issued by the originating lending institution—the servicer of the
loan. After escrow closes, the loan is sold to either Fannie Mae or Freddie Mac. The originating lender will either keep the loan servicing rights or sell the loan servicing rights to another lender.
Fannie Mae and Freddie Mac buy qualified loans from banks, mortgage lenders, and savings and loan institutions, then package them into securities, and sell them to investors. It’s a process that allows the various lending institutions to free up more money and continue lending to new borrowers. In essence, Fannie Mae and Freddie Mac keep the mortgage lending lifecycle moving.
Dealing with Defaults
Should a borrower with a conforming loan backed by Fannie Mae or Freddie Mac face financial challenges and struggle to keep the mortgage current, they can apply for the Home Affordable Refinance Program (HARP) loan modification program, also known as Home Affordable Mortgage Program (HAMP).
By contract, a conforming loan differs from loans issued by the Federal Housing Administration (FHA), which are insured for the lender (not the borrower) by the Housing and Urban Development (HUD). If a homeowner with an FHA loan defaults on a loan, the FHA must assume responsibility for protecting the loan and the lender. Borrowers with FHA-backed financing do not qualify for HARP or HAMP, because the FHA has its own loan modification programs.
Conforming loans may be harder to qualify for, but they offer great benefits and lower rates to qualified borrowers. Conforming loans are a financial lifeline for lending institutions and the country. Lending institutions can afford to stay in business and help a wider range of mortgage applicants obtain a financing program that best fits their qualification level, and keep more money moving through the economy.