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A non-conforming mortgage is one of several types of mortgages. The mortgage is called “non-conforming” because the borrower’s qualification criteria fall outside the conforming criteria that allow the two largest government-sponsored enterprises (GSEs), Fannie Mae and Freddie Mac, to purchase the loan.
Let’s take a closer look at what it means for you, the borrower, and when you should consider a non-conforming mortgage.
What is a non-conforming loan?
Non-conforming mortgages are types of mortgages that do not meet some or all of the guidelines to qualify for purchase by Fannie Mae and Freddie Mac. Overseen by the Federal Housing Finance Agency (FHFA), these GSEs back much of the secondary mortgage market in the United States.
A loan can be deemed non-conforming for a variety of reasons, including:
- The loan amount exceeds the conforming loan limit ($766,550 in most parts of the U.S. in 2024).
- The borrower’s credit score and debt-to-income ratio (DTI) don’t meet the eligibility criteria.
- Loans have non-traditional structures, such as interest-only repayment schedules and terms other than 15 or 30 years.
How do non-conforming mortgages work?
Many mortgage lenders offer non-conforming loans, and some even specialize in non-conforming loans. When you borrow from one of these non-conforming mortgage lenders, the loan works much the same as a conforming loan in that you’re borrowing money to buy a home.
The difference is that Fannie Mae and Freddie Mac can’t buy non-conforming mortgages from lenders and then package them up for investors. Typically, the funds they make from these sales help lenders continue to offer more mortgages.
For this reason, lenders tend to favor conforming loans over non-conforming loans. Lenders prefer conforming loans because they can be easily bundled together into investment bundles and sold in the secondary mortgage market. Because non-conforming loans cannot be sold to the GSEs, lenders often keep these loans on their books, which requires more work to underwrite and service.
The lack of a GSE guarantee is not necessarily a concern for you as a borrower — there are non-conforming loans that are guaranteed by other government agencies rather than the GSEs. However, unguaranteed non-conforming loans can be risky.
Types of Non-Conforming Loans
Government guaranteed loans
Government-insured mortgages are mortgages that are insured or guaranteed by either the Federal Housing Administration (FHA loans), the U.S. Department of Veterans Affairs (VA loans), or the U.S. Department of Agriculture (USDA loans). Although they can’t be purchased by Fannie Mae or Freddie Mac, they’re guaranteed by their respective agencies, so you can rest assured they’re a safe product. Here’s a summary:
FHA Loans: With an FHA loan, you can borrow money to buy a home even if you have a credit score as low as 580 and a down payment of 3.5%. With a 10% down payment, you can also borrow with a credit score of 500. However, unlike other non-conforming loans, you will have to pay mortgage insurance with an FHA loan.
VA Loans: VA loans are home loans for military members, veterans, and survivors. If you qualify, you can use a VA loan to buy a home with no down payment. You also don’t have to pay mortgage insurance. (Instead, you pay a one-time funding fee.)
USDA Loans: USDA loans are for people buying homes in certain government-designated rural areas. Like VA loans, you can get a USDA loan with no down payment, but you’ll have to pay a fee.
Jumbo Loan
Jumbo loans are one of the most common types of non-conforming loans, but not all lenders offer them. These loans are for borrowers who need a larger mortgage amount than what’s allowed in a conforming loan. In most areas in 2024, this means a mortgage amount over $766,550 (or up to $1,149,825 in pricier markets). In many areas where home prices are rising significantly, a jumbo loan may be the only option for some borrowers.
While historically higher than conforming loans, jumbo loan interest rates have been declining in recent years. However, it’s harder to qualify for a jumbo loan. You may need to put more capital up front, for example, by having a higher credit score (usually above 700) and additional cash reserves or financial assets.
Other Non-Conforming Loan Types
- Hard Money Loans: Hard money loans are non-conforming loans that provide short-term funding to borrowers. Real estate investors often seek out hard money loans because they need funds to flip properties and may not have the credit or financial standing on paper to qualify for a traditional home improvement loan. Hard money loans have higher interest rates and shorter terms, making them more expensive and risky.
- Interest-only loans: Interest-only loans are non-conforming because they are not structured like a conforming loan, which requires you to repay both principal and interest as the loan amortizes over a period of time. Rather, with an interest-only loan, you pay only interest for the first period (for example, 10 years), and then you pay back both interest and principal thereafter. You may also receive a lump sum payment, known as a balloon payment, which may be unmanageable for some borrowers.
- Owner or seller financing: With owner financing (also known as a possession loan or purchase-money loan), the home buyer pays the seller, rather than a mortgage lender, in monthly installments at an agreed-upon interest rate.
Pros and Cons of Non-Conforming Loans
Benefits of Non-Conforming Loans
- Flexibility: If you don’t qualify for a conforming mortgage because you lack credit or savings, a non-conforming loan may open the door to getting a mortgage.
- Increased loan limits: With a non-conforming mortgage, there is no limit to the amount you can borrow.
- Other use cases: This type of loan can provide funding for home resales or the purchase of types of property not covered by traditional conforming mortgages.
Disadvantages of Non-Conforming Loans
- Decreasing lenders: Most mortgage lenders offer conforming loans, but not all lenders offer non-conforming mortgages.
- High risk: Many of the criteria for conforming loans are there to prevent you from overborrowing. Non-conforming loans may be easier to get, but they may have an unusual repayment schedule or other characteristics that make them difficult to repay.
Who are non-conforming loans best for?
Non-conforming mortgages are ideal for those who need a larger loan or who don’t qualify for a conforming loan. This includes borrowers with low credit scores, those with limited or no savings for a down payment, real estate investors, and the self-employed. Rising home prices may make a non-conforming loan the only option for borrowers who need a larger loan.
