A conforming loan is a mortgage loan that is available to the average and everyday homeowner and home buyer. Not only is it easy to qualify for, but it is also quite easy to find mortgage lenders. Many of these lenders will offer conforming loans irrespective of your credit and financial situation. This article is an overview of conforming loans, what their role is in the mortgage market, eligibility requirements, and the various pros and cons. With that, let’s dig in!
What is a Conforming Loan?
A conforming loan is a mortgage that is eligible to be purchased by Fannie Mae and Freddie Mac. These are two government-sponsored enterprises (GSEs) which we’ve discussed at length previously. A conforming loan can be purchased by these GSEs because it meets (“conforms”) to their standards. These standards include limits on the amount that can be borrowed.
Requirements To Qualify for A Conforming Loan
You must meet certain eligibility requirements of Fannie Mae and Freddie Mac to get a conforming loan. These requirements include:
- Maximum Loan limit – for 2021, this amount is $548,250 for a single-family home in most markets and $822,375 in higher-cost areas.
- Credit score – At least 620.
- Debt ratios – Ideally, a front-end ratio of 28 percent or less and a back-end ratio, also known as the debt-to-income (DTI) ratio, of 36 percent or less.
- Down payment and equity – Ideally, the down payment is at least 20 percent for a purchase mortgage. For a refinance mortgage you need 20 percent equity. However, Fannie Mae and Freddie Mac also back conventional loans with down payments that are as low as 3 percent.
- Loan-to-value (LTV) ratio – Ideally, 80 percent or lower. Again, Fannie Mae and Freddie Mac also back conventional loans with LTVs that are as high as 97 percent. This depends on whether it’s an adjustable-rate or fixed-rate mortgage.
Keep in mind that the above-listed requirements are only the minimum. It is possible to qualify for a conforming loan with a higher DTI ratio and lower down payment. However, in this example you may have to pay a higher interest rate. You would also likely have to pay for private mortgage insurance.
Conforming loan limits for 2021
The conforming loan limit for 2021 is $548,250 for a single-family home in most areas. However, you may be able to borrow as much as $822,375 in areas with high home values, such as Hawaii and parts of California and New York. You can check the conforming loan limit in your county using this map from the Federal Housing Finance Agency (FHFA).
Generally, the FHFA sets and reevaluates the conforming loan limits annually to align with changes in national average home prices. As home prices have increased over time in recent years, it shouldn’t be a surprise that the conforming loan limit has also increased:
What are the benefits of a conforming loan?
- These loans are offered by many different lenders, allowing you to compare services and prices.
- If you put down at least 20% of the home price, you can avoid paying for private mortgage insurance, which can save hundreds of dollars each month.
- Since these loans can be purchased by Fannie Mae and Freddie Mac, they often come with lower interest rates.
- Conforming loans are more standardized compared to non-conforming loans. What this means is that no matter which lender you approach, you’re more likely to receive the same eligibility requirements.
What are the disadvantages of a conforming loan?
- Your DTI ratio must meet the loan standards. The maximum DTI ratio is typically 36 percent, but that can stretch to 45 percent or even 50 percent if you have other “compensating factors,” such as a high credit score.
- If you’re looking to purchase a more expensive home, a conforming loan may not be your best option due to the conforming loan limits.
The Bottom Line:
Conforming loans are a great loan option for first-time home buyers who have excellent credit and are looking for a moderately-priced home to buy. Not only is it easy to qualify for, but it also offers greater consumer protections and lower interest rates.