There are two types of conventional mortgages: conforming loans and nonconforming loans. The differences between the two types will affect both what mortgage lenders require from borrowers, and the major terms of the loan itself.
Here’s a basic comparison of the key differences between conforming and nonconforming loans:
Conforming Loans vs. Nonconforming Loans
|Conforming Loans||Nonconforming Loans|
|Stricter eligibility requirements.||Looser eligibility requirements.|
|Higher down payment requirements.||Lower down payment requirements.|
|Loan amounts cannot exceed FHFA limits.||Loan amounts can exceed conforming loan limits.|
|Lower overall costs.||Higher overall costs.|
What Is a Conforming Loan?
Conforming loans meet requirements set by the federal government that allow lenders to sell them to Fannie Mae and Freddie Mac, which are government-sponsored enterprises.
To get a conventional loan, borrowers need to meet requirements including a minimum credit score, a maximum debt-to-income ratio, and a minimum down payment, in addition to a maximum loan amount based on which state or county the home is located in and how many units it has.
The ability to sell loans to Fannie or Freddie makes conforming loans less risky for lenders, which in turn often can offer lower interest rates to borrowers.
Conforming loan limits in 2023
Each year, the Federal Housing Finance Agency sets the loan limits for conforming loans. For 2023, the limit in most places is $726,200 for a single-family home. In certain high-cost areas, this limit is increased to $1,089,300 for a single-family home.
Conforming Loan Limits for 2023
|Number of Units||Loan Limit||High-Cost Area Loan Limit|
A map of conforming loan limit values is available online.
Conforming loan requirements
Here’s a look at the main eligibility requirements for a conforming loan:
Conventional Loan Eligibility Requirements
|Credit Score||Minimum of 620.|
|DTI Ratio||50% or less.|
|Down Payment||5%, or 3% under special loan programs.|
|Income and Assets||Enough money to cover your monthly payments.|
Conforming loan pros and cons
Here are some of the benefits and drawbacks of a conforming loan:
Pros and Cons of Conforming Loans
|Lower total cost.||Require a down payment.|
|Most common loan type.||Require a credit score of at least 620.|
|Flexible loan terms.||Come with loan amount limits.|
What Is a Nonconforming Loan?
A nonconforming loan doesn’t meet FHFA requirements and cannot be sold to Fannie or Freddie. These loans are, by definition, less standardized. As a result, eligibility, pricing, and features will vary greatly depending on the lender you choose.
The most common type of nonconforming loan is the jumbo loan, which exceeds the FHFA minimum loan limits and usually maxes out at around $2 million. Good credit and a larger down payment usually are required to get a jumbo loan.
Other types of nonconforming loans are intended for borrowers with poor credit and typically come with a higher interest rate.
A nonconforming loan can be useful for people with complicated finances, buyers who want to purchase an expensive home, or properties that are difficult to appraise. Downsides of these loans include stricter eligibility requirements and greater financial risk.
Nonconforming loan types
There are several types of nonconforming loans, each of which comes with a different set of pros and cons. Here’s a look at some of the nonconforming loans available to homebuyers.
If you need to borrow more than the conforming loan limit set by the FHFA to buy a home, then you likely need a jumbo loan.
One of the main differences between jumbo and conforming loans, aside from the loan amount, is that jumbo loans cannot be sold to Fannie or Freddie. That means they pose more risk to the lender. As a result, they often come with stricter eligibility requirements and higher borrowing costs.
The good news is that since borrowers who qualify for these loans can meet those stricter requirements, the interest rates that lenders offer on jumbo loans typically are comparable to those for conforming loans.
Three federal agencies offer most government-backed loans in the United States: the Federal Housing Administration, Veterans Affairs, and the Department of Agriculture.
Government backing reduces the lender’s risk. As a result, these loans typically have more-generous eligibility requirements and require a small or no down payment.
These loans usually are intended for specific types of borrowers. For example, VA loans only are available to military service members, veterans, or their qualified spouses. If you qualify but have good credit, some government-backed loans may end up being more expensive overall than a conventional loan. Government-backed loans also may require you to buy mortgage insurance.
With an interest-only loan, you pay only the interest on the loan and none of the principal for a set period of time. This lowers the monthly payment and makes the mortgage more affordable. However, after this period is over, and as you begin repaying the principal as well as interest, your monthly payments will increase significantly.
With a holding mortgage, the seller also is the lender. Instead of making mortgage payments to a lender, the buyer pays the seller directly. One downside is that the seller keeps the property title in their name until the loan is paid off.
Nonconforming loan pros and cons
Here’s a look at some of the benefits and drawbacks of nonconforming loans:
Pros and Cons of Nonconforming Loans
|You can buy a more expensive home.||Lenders often compensate for lower credit requirements by charging a higher interest rate.|
|Lower minimum down payment.||Some come with risky features.|
|Some have lower credit requirements.||Jumbo loans have higher down payment and credit requirements.|
Conforming vs. Nonconforming Loan: Which Is Best for Me?
If you meet the requirements, getting a conforming loan usually means you pay a lower interest rate.
However, if you’re buying a more expensive home, you may need a jumbo loan or other alternative to a conventional loan. The Consumer Financial Protection Bureau advises borrowers to explore other mortgage options before choosing a nonconforming loan.
Shopping for a nonconforming loan
If you’re shopping for a nonconforming loan, it’s important to pay close attention to the details and features of the loan. Because nonconforming loans don’t follow standards set by the federal government, they may pose a higher risk for borrowers. Also keep an eye on the interest rate, as nonconforming loans tend to come with higher rates.