Conventional Loans

Conventional Loans

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.

Conventional loans generally offer lower costs than other loan types, and if you meet credit score requirements and want a down payment of as low as 3%, a conventional mortgage might be the best solution for you.

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.

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. 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.

When you refinance the mortgage on your house, you’re essentially trading in your current mortgage for a newer one, often with a new principal and a different interest rate. Your lender then uses the newer mortgage to pay off the old one, so you’re left with just one loan and one monthly payment.

Consider why you want to refinance your home loan. Your goal will guide the mortgage refinancing process from the beginning.

• Reduce the monthly payment. When your goal is to pay less every month, you can refinance into a loan with a lower interest rate. Another way to reduce the monthly payment is to extend the loan term — say, from 15 years to 30. The drawback to extending the term is that you pay more interest in the long run.
• Tap into equity. When you refinance to borrow more than you owe on your current loan, the lender gives you a check for the difference. This is called a cash-out refinance. People often get a cash-out refinance and a lower interest rate at the same time.
• Pay off the loan faster. When you refinance from a 30-year mortgage into a 15-year loan, you pay off the loan in half the time. As a result, you pay less interest over the life of the loan. There are pros and cons to a 15-year mortgage. One downside is that the monthly payments usually go up.
• Get rid of FHA mortgage insurance. Private mortgage insurance on conventional home loans can be canceled, but the Federal Housing Administration mortgage insurance premium you pay on FHA loans cannot in many cases. The only way to get rid of FHA mortgage insurance premiums is to sell the home or refinance the loan when you have accumulated enough equity. Estimate your home value, then subtract your mortgage balance to calculate your home equity.
• Switch from an adjustable- to a fixed-rate loan. Interest rates on adjustable-rate mortgages can go up over time. Fixed-rate loans stay the same. Refinancing from an ARM to a fixed-rate loan provides financial stability when you prefer steady payments.