What Is a Non-Conforming Loan?

Non-Conforming Loans Explained

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Non-conforming loans are mortgages that fall outside the jurisdiction of government loan insurers Fannie Mae and Freddie Mac.

What Are Non-Conforming Loans?

Non-conforming loans are high value mortgage loans and those made to borrowers who would not typically qualify for a loan backed by Fannie Mae or Freddie Mac.

Non-conforming loans are usually made by private lenders that stipulate the requirements borrowers must meet for approval.

These loans serve as part of the private lenders' investment portfolios. Unlike conventional mortgage loans, they are not bundled and resold.

How Non-Conforming Loans Work

In a non-conforming loan:

  • The loan amounts are higher.
  • The documentation is more extensive.
  • The down payment may be larger.
  • The required credit score may be higher.
  • The debt-to-income ratio is firm.
  • Significant cash reserves may have to be on hand.
  • Interest rates may be higher.
  • Closing costs and fees may be higher.

Loan Amounts

Non-conforming mortgage amounts are those above $510,400 in 2020 and those above $548,250 in 2021. In high-cost areas, non-conforming mortgage amounts generally start above $765,625 in 2020 and above $822,375 in 2021.

Documentation

Be prepared to provide the lender with extensive documentation, for several years, of your income tax returns, pay stubs, bank statements, appraisals of assets, and other material in order to qualify for a non-conforming mortgage loan.

Down Payment

Some lenders will accept a down payment of only 10%, but they usually require private mortgage insurance with a down payment at that level. Many lenders require a down payment of around 20% or even a little more, depending on the loan. 

Credit Score

A minimum credit score of 680 is typically required. Since private lenders make non-conforming loans, they set their own credit score requirements and can adjust them up or down. The quality of your credit score will affect the interest rate you pay.

Debt-to-Income Ratio

Lenders may require a debt-to-income ratio of 40% or less for a non-conforming loan, but they might settle for less if you have access to a large amount of liquid assets.

Cash Reserves

Most lenders of non-conforming jumbo loans will ask to see significant cash reserves on hand since they would take quite a loss in case of foreclosure due to the size of the loan. The amount of cash reserves is set by each lender but is often one year’s worth of mortgage payments.

Interest Rate

The interest rate on a non-conforming loan is almost always slightly higher than on a loan of less value. Lenders try to be competitive and keep interest rates as low as possible.

Closing Costs and Fees

Closing costs and fees are higher on a non-conforming mortgage because fees are calculated as a percentage of the mortgage balance. There are also additional closing costs for this type of mortgage—such as multiple property appraisals.

These are general guidelines for non-conforming loans. Because the lenders are private, any of the guidelines, except loan limit, are up to their discretion. For that reason, a non-conforming loan may be available even if you have had a bankruptcy.

Alternative to Non-Conforming Loans

Conforming loans are made by banks and other financial institutions and backed by Fannie Mae and Freddie Mac. They have characteristics that are different from the non-conforming loans:

  • Loans must be for $510,400 or less in 2020 and for $548,250 or less in 2021.
  • The down payment may be as low as 3% of the price of the home.
  • The down payment and closing costs may be gifted.
  • The borrower’s credit score can be no lower than 620.
  • The debt-to-income ratio can usually be no higher than 50%, though 43% is another common figure used by lenders.

Conforming loans have some benefits over non-conforming loans:

  • Flexibility: Since conforming loans have to conform to the same standards across financial institutions, the borrower often has a choice of lenders.
  • Lower interest rates: The interest rates of conforming loans are usually lower than the interest rates of non-conforming loans.

If you are preparing to apply for either a non-conforming or a conforming mortgage loan, you want to keep your credit score up to the standard and have a spotless credit history. Go over your credit report and be sure there are no errors that could drag down your credit score.

Key Takeaways

  • A non-conforming loan falls outside the rules prescribed by Fannie Mae and Freddie Mac.
  • It is also called a jumbo mortgage because of its size.
  • Private lenders issue them and make their own rules.
  • An impeccable credit score is usually required to obtain a non-conforming loan.

Article Sources

  1. Federal Housing Finance Agency. "FHFA Announces Conforming Loan Limits for 2021." Accessed Nov. 29, 2020.

  2. myFICO. "What Credit Score Do You Need to Buy a House?" Accessed Nov. 29, 2020.

  3. Ally. "Jumbo Loan Requirements: How You Qualify for a Mortgage." Accessed Nov. 29, 2020.

  4. Rocket Mortgage. "Debt-to-Income Ratio and Mortgage Eligibility." Accessed Nov. 29, 2020.