Conforming vs. Non-Conforming Loans

What is a conforming loan? What does it "conform" to?

A conforming loan meets certain guidelines as set forth by Fannie Mae and Freddie Mac. The best-known of these guidelines is the size of the loan; in most counties in the United States, the current maximum size of a conforming loan is $417,000, though super-conforming loans with higher price limits are available in more expensive counties. Conforming loan limits can change from year to year.

In addition to the size limit, conforming loans must meet guidelines regarding a borrower's debt-to-income ratio (DTI), and the loan must be properly documented.

Conforming loans are attractive to borrowers because they usually offer lower interest rates.

Non-conforming loans are offered to borrowers who do not qualify for conforming loans. Though they are the only borrowing option for some home buyers, they typically have higher interest rates, and may carry additional upfront fees and insurance requirements.

Loans can be non-conforming for several different reasons. The best-known type of non-conforming loan is the jumbo loan.

Jumbo loans are too large to meet the guidelines of a conforming loan. For example, if you are buying a home in a county in which the conforming loan limit is $417,000, and you are taking out a single mortgage for $500,000, you'll need a jumbo loan.

As jumbo loans do not meet the standards of a conforming loan, they are more difficult to sell on the secondary market. Lenders are less confident in their ability to resell this type of mortgage, so they will offset their financial risk by charging the borrower a higher interest rate.

Certain borrowers do not meet the lending guidelines of conforming loans, even if the size of the loan is not an issue. Usually, this is for one or more of the following reasons:

• Loan-to-Value Ratio (LTV): This number represents the percentage of the home's purchase price that you pay for with a mortgage. If the home costs $100,000, and you take out a mortgage of $80,000, the LTV ratio is 80%. Typically, you can borrow up to 90% of the home's purchase price and still qualify for a conforming loan. Anything higher than a 90% LTV ratio may disqualify you.
• Credit Score and History: As of December, 2009, borrowers need to have a solid credit history, reflected by a credit score of at least 620. A lower credit score may disqualify you from getting a conforming loan.
• Documentation Problems: Conforming loans require complete documentation of employment history, income, and assets. If you can't provide all of this documentation, you may not qualify for a conforming loan.
• Total Debt: If your total debt load is very high, you may have trouble getting a conforming loan.
• Recent Bankruptcy: Borrowers who are recovering from a recent bankruptcy (within the past two years) may not be able to secure a conforming loan.
• Debt-to-Income Ratio (DTI): If your monthly mortgage , insurance, taxes, and other consumer debt payments add up to more than 45% of your monthly pre-tax income, you may not qualify for a conforming loan.