How Do I Get a Conventional Loan?

When shopping around for a mortgage, you’ll likely encounter many terms related to types of loans. For instance, conventional loans are one of the most popular types of mortgages — nearly all lenders offer them.

Conventional loans tend to have stricter requirements than government-backed mortgages. But with so many people qualifying, a conventional loan might be more within reach than you might think.

Here’s what you should know about conventional loans before you apply:

What is a conventional loan?

A conventional mortgage is a home loan not backed by a government agency such as the FHA, VA, or USDA. You should also know that lenders often sell conventional loans to Fannie Mae or Freddie Mac, which are government-sponsored enterprises (GSEs) that facilitate mortgage financing available.

While GSEs have financial qualifications with respect to who can borrow money for a home and what type of property the loan can finance, they are typically less restrictive than government-backed ones.

For instance, you can use a conventional loan through a GSE to finance a single-family home that you’ll live in year-round, a multi-family investment property, or a second home. FHA loans, on the other hand, usually require you to purchase a home that will serve as your primary residence.

What are the advantages of conventional loan?

There's no right mortgage loan for everyone, so it's important to know both the pros and cons of a conventional loan before you get too invested. Here are some of the benefits you'll derive from a conventional loan.

Low-Interest Rates
As your interest rate is tied to your creditworthiness — among other factors — a high credit score can help you qualify for a low-interest rate. Also, know that a low down payment can result in you paying private mortgage insurance, it might not be a long-term commitment. That’s because you can request to have the insurance requirement removed once your loan-to-value ratio reaches 80%.

However, FHA loan mortgage insurance premiums may stay on there for the life of the loan.

Higher Loan Limits
While conforming loans do have limits, you can go even higher with jumbo conventional loans if necessary. You’ll likely have more constraints in this regard with government-insured loans.

Flexibility
Private mortgage lenders have more flexibility with conventional loans than they do with government-insured loans, primarily because they don't need to follow the guidelines set by those government agencies.

As a result, you may have an easier time finding a conventional loan with flexible down payment options and term lengths, not to mention opportunities to get a loan if your credit doesn't meet the standards for a government-insured or conforming loan.

Requirements for a conventional loan

Lenders view conventional loans as higher stakes bets because the government doesn’t guarantee them. This means lenders stand to lose all the remaining principal and interest on a mortgage if the borrower ends up defaulting. This has consequences for buyers, as conventional lenders impose higher financial standards on borrowers seeking conventional loans.

All conventional loans must meet predetermined standards set by Fannie Mae and Freddie Mac. However, each lender has the agency to impose its own, higher standards — known as “lender overlays” in the industry. What lenders cannot do is overstep and require you to jump through extra hoops, which might be considered mortgage discrimination.

These are the minimum conventional loan requirements you should be prepared to meet:

● Credit score of at least 620
● Debt-to-income ratio of no more than 45%
● Minimum down payment of 3%, or 20% with no PMI
● Property appraisal verifying the home’s value and condition

Let’s dive into the specifics here:

Conventional loan credit score requirements
Lenders want to see a credit score of at least 620. Also, know that borrowers with credit scores of 740 or higher can make lower down payments and tend to get better rates.

Conventional mortgage debt-to-income requirements
The gold standard is a debt-to-income ratio (DTI) that's below 36% for conventional loans, though in some cases a lender may accept a higher DTI. For context, your DTI represents the total amount of your existing monthly debts (like rent or a car payment) divided by your pre-tax monthly income.

Conventional loan down payment requirements
The minimum down payment required for a conventional mortgage is 3%. It’s possible that borrowers with lower credit scores or higher debt-to-income ratios may be required to furnish a higher down payment. You'll also likely need a larger down payment for a jumbo loan or a loan for a second home or investment property.

Conventional loan limits
The maximum amount you can borrow with a conventional mortgage depends on the type of conventional mortgage you choose — conforming or nonconforming.

Loan limits for conforming conventional loans are set by the Federal Housing Finance Agency (FHFA), which provides supervision, regulation, and housing mission oversight of Fannie Mae, Freddie Mac, and the Federal Home Loan Banks. The current maximum is $647,200 in most U.S. counties, $970,800 in areas with higher costs of living. When it comes to nonconforming conventional loans, lenders are free to set their own limits.

While there isn't a conventional loan limit per se, conventional mortgages must comply with the local FHFA limit to be considered conforming. It's generally easier to qualify for a conventional loan that falls below the conforming loan limit for your area.

Steps to a conventional loan

Now that you’re familiar with the hallmarks of a conventional loan, you might be interested in next steps. The process for applying for a conventional mortgage loan is fairly standard among various lenders.

Preapproval
Prior to starting the application process, it’s recommended to reach out to a lender for preapproval. They'll want to collect some information regarding your income, debts, and whether you rent or own, to evaluate your fitness as a borrower. On a related note, they’ll review your credit score and credit report.

If it’s determined that you meet the preapproval criteria, the lender gives you a letter stating that you have been preapproved for up to a specific loan amount. This is a strategic move because having a letter of preapproval shows sellers that you're serious about buying.

Formal Loan Application
Most lenders use a standard loan application form called the uniform residential loan application. Expect to answer detailed questions about the type of loan, the property being purchased, and your personal finances. There are sections for your employment history, income, assets, and liabilities.

In addition to the application, you'll need to furnish proof of income such as pay stubs or tax returns for the past two years. Once the application is received, the lender orders a title report on the property and then arranges for an appraisal. The title report will verify that there aren't any outstanding liens against the property, such as a tax lien. The appraisal determines the fair market value of the property.

Underwriting
From here, underwriting determines whether your loan application is approved or denied. Lenders rely on software programs to assess the information on the loan application to determine your risk as a borrower.

Closing
If you’re approved for the loan after the underwriting process, the loan is now considered "clear to close." However, in the event your application is denied, the lender must provide you with a written explanation.

To tie up any loose ends, you'll meet with a closing agent to sign the loan documents. Mortgage loans require a lot of paperwork. After everything is signed, the document package is sent to post-closing to check for any errors. The loan will fund within a few days after the closing most of the time.

Talk to a lender

The most important thing to keep in mind about applying for a mortgage is that you don’t have to go it alone. Whether it’s conventional or another product, we can help you find the right type of mortgage to help you realize your home buying dreams. We'll help you compare, learn about the nuances of each financing option and make an educated decision based on your finances and goals. Even if you can't purchase a home in the short term, we'll help you understand why and come up with a plan to make your goal a reality.