What Is A "Conforming Mortgage"?
With Fannie Mae and Freddie Mac all over the news, and the future of conforming mortgages in question, a common query I’m getting from clients:
"What is a conforming mortgage?"
A conforming mortgage is one that adheres to the mortgage guidelines set forth by mortgage securitizers Fannie Mae and Freddie Mac.
Conforming mortgage are so-called because, literally, they conform to what Fannie and Freddie will allow on a mortgage.
For home buyers and people in want of a mortgage refinance, conforming mortgages are where it’s at — the ultimate combination of low rates and huge product selection.
It’s not that banks can’t compete with Fannie and Freddie on interest rates for a given home loan — they can. It’s that local banks lack the capacity to do it on a grand scale.
Consider what happens to conforming mortgages after a closing:
- First, the individual mortgage is combined with thousands of other mortgages to make one giant mortgage blob
- Next, the giant mortgage blob is split back into lots of tiny pieces
- Then, the tiny pieces are sold to Wall Street as mortgage-backed bonds
- And, as a final step, Fannie Mae and Freddie Mac attach a "guarantee of repayment" to each bond sold
It’s this last step that makes conforming mortgages so (relatively) inexpensive. Because the debt is guaranteed, Wall Street doesn’t demand as high of a return as it does for, say, jumbo loans or for sub-prime ones.
Conforming mortgages are nearly risk-free to investors and their interest rates reflect that.
The opposite of a conforming mortgage is a portfolio loan, a mortgage offered by a local bank to be held on its own books. Other mortgage types include FHA, VA and Alt-A. Because each of these loan types have their own rules and guidelines, the "conforming" rulebook does not apply.