Finding the right home loan can be tough, especially if you are not familiar with lending lingo. If you are wondering how conventional loans differ from portfolio loans, the answer lies in the loans' final destinations. From your point of view, conventional loans have hard and fast rules while portfolio loans provide you more leeway.
Lenders keep portfolio loans on their books, but sell conventional loans to enterprises that market loans as securities. Federal laws require banks to keep a certain amount of cash on hand to cover losses tied to their outstanding loans. Because banks don't have limitless cash, the federal government sponsored two entities -- Fannie Mae and Freddie Mac -- which buy bank loans. These enterprises package thousands of loans and then sell bonds backed by the loans to investors. In short, investors around the nation have an ownership stake in your home loan. Portfolio loans are the debts that banks keep on their books for the duration of the loan term.
Because Fannie Mae and Freddie Mac buy loans from many different lenders, strict laws are in place to ensure that all of these lenders write loans the same way. As of 2012, these entities buy only single-family home loans with balances less than $417,000, unless you live in certain high-cost areas, such as Hawaii, where loan limits are higher. If you make a down payment of less than 20 percent, you must buy private mortgage insurance to protect investors against default. An 80 percent financing cap limits loans on many houses, although Fannie Mae and Freddie Mac can finance up to 95 percent on some homes.
When you take out a portfolio loan you do not have to pay for private mortgage insurance; your lender assumes the default risk when it writes the loan. Banks can make their own rules for these in-house loans so a portfolio loan can exceed Fannie Mae and Freddie Mac's limits. Large banks sometimes offer 100 percent financing on portfolio loans, which means these loans are attractive for people who have very little cash to spare. During economic downturns, banks cut back on portfolio lending so these loans are not as readily available.
With looser lending guidelines, portfolio loans sound like a great idea. Your bank would go bust if a large number of people defaulted on these loans, though. Therefore, most banks charge above-average interest rates for these loans or limit loan offerings to the credit-worthiest clients. Cash restraints mean that banks cannot offer these mortgages to everyone. If you don't qualify for a portfolio loan and lack the cash for a conventional mortgage, you may qualify for a Federal Housing Administration loan. These mortgages are sold to investors, but the FHA guarantees a portion of the loan in the event of borrower default. Thanks to the government guarantee, you can get an FHA loan with a down payment of just 3.5 percent. You do have to pay for this guarantee with monthly insurance payments.
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