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What is a conventional loan?
A conventional loan is one of the most popular loan programs out there to either purchase or refinance a home. It’s the most popular type of mortgage with lenders and borrowers, in fact, it makes up the majority of all home loans in the country.
Conventional mortgages are not guaranteed by the government, such as FHA or USDA loans. A conventional mortgage, on the other hand, must follow Fannie Mae and Freddie Mac’s lending standards in order to qualify. These standards state that:
- A minimum credit score of about 640 to qualify, depending on the loan amount, debt-to-income ratio, and other factors
- A debt to income ratio under 45%—may be lower for borrowers with lower credit scores
- No major credit report issues, like bankruptcy or foreclosure
- A down payment of 3% or more (20% if you don’t want to buy mortgage insurance)
- A total loan amount of $510,400 or less (in most areas — $765,600 in higher-cost areas)
So how do conventional loans differ from other mortgage types?
Let’s dive in and see how conventional loans compare to other options.
Conventional loans vs FHA loans
The FHA loan is perhaps the second most common mortgage out there and a popular option for first-time home buyers. However, conventional loans tend to be more affordable than FHA loans, both upfront and over the life of the loan.
For example, they don’t require upfront mortgage insurance, and if you make a 20% down payment, you do not have to pay for mortgage insurance at all. But even if you don’t put a 20% down, with a conventional loan, you can request cancellation of your PMI once your loan hits an 80% loan-to-value ratio — otherwise it will be canceled automatically once the LTV reaches 78%. On the other hand, mortgage insurance remains in effect for life on most FHA loans.
Also, a conventional loan may require a smaller down payment than an FHA loan for a primary home (3% vs 3.5%), while also providing more flexibility for the type of property you want. With a conventional loan, you may purchase vacation homes and investment properties whereas, an FHA mortgage only allows you to purchase a primary residence.
But you’ll need a higher credit score to qualify. FHA loans require at least a 500 to 580 credit score, depending on your down payment.
Conventional loans vs VA loans
The main difference between these two programs is that VA loans are only available to qualifying military personnel, veterans, and their spouses. These cannot be obtained by the average homebuyer.
If you do meet the requirements for military service for a VA mortgage, odds are, the VA loan will most likely be your best option as it has more benefits such as:
- They require zero down payment
- The seller has to pay a portion of your closing costs
- There’s no mortgage insurance required
- They tend to have some of the lowest interest rates
One thing to consider is that VA loans are for primary homes only. You will not be able to purchase an investment home or a vacation home with a VA mortgage.
Conventional loans vs USDA loans
USDA loans are only available in select rural areas whereas conventional loans may be obtained in any location throughout the country. When compared to other loan alternatives, USDA loans might appear to be a very cost-effective option. In fact, USDA mortgages tend to have lower interest rates and do not require a down payment either.
Keep in mind that USDA has some stipulations that conventional loans do not. For one, there is no maximum income for a conventional loan, but USDA loans have income limits that vary based on the county and state where you’re buying the home.
Your lender will take into account everyone in the household’s income, not just those on the loan, while determining your eligibility for a USDA loan. Borrowers may also come across limits on loan amounts that may be lower than what may be obtained with a conventional mortgage.
Conventional loans vs Jumbo mortgages
Also known as “Non-conforming” loans, Jumbo mortgages are intended for financing high-priced properties, as their name implies.
Basically, they come into help when the home buyer seeks a loan greater than the maximum allowed on a conventional mortgage. In most places around the country, the maximum allowed conventional loan for a single-family home will be $554,100 (as of 2021). In “higher-priced” markets such as DC, Los Angeles, San Francisco, New York, and other designated high-cost areas, that number to $822,375. Thus, a Jumbo mortgage comes in when a borrower needs a higher loan amount to finance a home.
One important thing to consider is that Jumbo loans aren’t backed by federal agencies and therefore, lenders are taking on more risk when they offer them. This means that a prospective borrower will face more stringent credit, asset, and income requirements.
Is a conventional loan the right option for you?
If you meet the basic qualifications for a conventional loan, this option may be the best one for you. Although government loans have a lot of benefits, most sellers prefer buyers who are qualified for a conventional loan instead. The reason is that qualifying for a conventional loan may be harder than an FHA, VA or USDA mortgage.
Conventional loans offer certain benefits that make it a better loan than other options. For instance, when comparing against an FHA mortgage, a conventional loan may save you thousands of dollars over the long term due to the mortgage insurance premium.
Whatever you decide, knowing your options is the best thing you can do. Andes Mortgage, LLC. is a full-service mortgage broker and we pride ourselves with helping our clients understand how their mortgage fits their overall financial picture. Because we are mortgage brokers, we do the mortgage shopping for you as we work with multiple lenders and banks. It only takes at once in just a few minutes and won’t affect your credit score. Click the link below to get started.
