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Understanding the Requirements for Fannie Mae-Backed Mortgages
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If you're on the hunt for a new home, you've probably heard of the mortgage funding powerhouse Fannie Mae as you've started looking into your financing options for this life-changing purchase. Fannie Mae is a government enterprise that helps banks and credit unions provide loans to homeowners. As a potential home buyer, understanding how Fannie Mae works can help you better prepare to qualify for a new mortgage. Learn more about this long-standing institution by taking a look at our tips for applying and the requirements needed to get a Fannie Mae-backed mortgage.
What Is Fannie Mae?
The Federal National Mortgage Association (FNMA) is also known as Fannie Mae. Fannie Mae is a government-sponsored enterprise that aims to provide liquidity in the mortgage market, meaning it exists to help people more easily access and borrow the funds they need to pay for a home. Congress started this enterprise to help people achieve their goal of homeownership during the Great Depression.
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Although it was formed as part of President Franklin Delano Roosevelt's series of economic reforms called the New Deal, today's Fannie Mae still helps borrowers with low or moderate incomes obtain mortgages. It's important to note that Fannie Mae doesn't lend money directly to homeowners. Instead, it guarantees mortgages via the secondary mortgage market. This essentially means that, if a buyer defaults on their home loan and can't pay, Fannie Mae is a third party that'll step in to buy the debt from the original lender and cover the loan — it "guarantees" the loan will be paid back to the lender.
Fannie Mae invests in home loans to help banks and credit unions fund more mortgages. This helps to keep money in the housing market and gives more people the means with which to buy a home. The enterprise also helps to keep markets more stable and loans more affordable for borrowers. In the wake of the COVID-19 pandemic, Fannie Mae helped people who were enduring financial hardship by pausing foreclosure proceedings.
Fannie Mae Loan Requirements
For a lender to work with Fannie Mae, it must comply with subprime lending regulations supplied by the federal government. "Subprime" refers to an interest rate that's above the prime rate, which itself is an interest rate that's accessible to borrowers who are deemed more creditworthy.
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Subprime rates are often offered to people who have lower credit ratings because they may be more likely to default on their loan payments. Financial institutions do this to mitigate the perceived risk of lending to less-creditworthy borrowers. Charging higher, subprime interest rates allows them to recoup more of the money they lent earlier on in the term of the loan. There are various risks associated with subprime loans. Some of these risks include variable interest rates and less verification of a borrower's income.
A mortgage guaranteed by Fannie Mae has strict criteria it has to follow. The lending limit is one example. In 2021, the limit for a conventional loan is $548,250. In 2020, the limit was $510,400. In higher-priced markets such as Alaska and Hawaii, the limit is $822,375. In 2020, the limit in those higher priced areas was $765,600.
To obtain a loan backed by Fannie Mae, you need to go through a Fannie Mae-approved lender. In addition to sticking to subprime loan guidelines, lenders also need to adhere to underwriting and eligibility criteria. This helps make sure they can maintain the quality of the loans.
A mortgage backed by Fannie Mae is also a conforming loan. This means you may see lower interest rates compared to a non-conforming loan or a jumbo loan. Non-conforming or jumbo loans don't have to abide by the same regulations. They also exceed the limits of conforming Fannie Mae-backed loans.
There are important figures you'll need to remember in 2021 if you're looking to qualify for a Fannie Mae-backed mortgage. These include:
- Minimum of 3% down payment for the home
- A minimum credit score of 620
- A debt-to-income ratio of 28/36 with exceptions made up to 50%
- Mortgage insurance (PMI) required with down payments under 20%
- Must be an owner-occupied property, investment property or vacation home
- Loan limit of $548,250 for much of the country with a higher limit possible in more expensive real estate markets
How to Qualify for a Fannie-Mae Backed Mortgage
The more you know about your finances, the easier it can be to qualify for a Fannie Mae-backed mortgage. Before you apply, take stock of your income, debts and savings. You'll need a credit score of 620 or higher to qualify for a Fannie Mae-backed mortgage. If your score is lower, now is the time to raise it. Start by paying off debts and checking your credit reports to determine if there are any discrepancies you need to have removed.
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Your down payment will make a big difference when it comes to your interest rate and loan terms. If you don't put enough money down, your loan could also bump up to a jumbo loan in some regions, which means Fannie Mae won't guarantee it. A loan backed by Fannie Mae needs a minimum payment of at least 3% down.
Once you've assessed your income and debts, it's time to put a budget together. Even if your lender says you can afford a $3,000-a-month mortgage payment, that doesn't mean you feasibly (and comfortably) can in reality. Start by looking at all your fixed expenses. These are things like car payments and student loans that are necessary.
Also look at other expenses, such as gym memberships and movie subscriptions, that you can cut if needed. When you look at your finances, you may realize you pay for three music streaming services you're not even using. Before you apply for a mortgage, it's also wise to really focus on saving money and paying off debts. Keep in mind that it may take some time to boost your credit score, get debts paid off and save up enough money for your down payment — patience and dedication are essential.
A Fannie Mae-backed lender wants to see you meet the 28/36 rule. This means that your monthly housing payment doesn't consume more than 28% of your income. Your other debts shouldn't total more than 36% of your income. Again, there are some exceptions made up to 50%, but it's possible you'll need a higher down payment if your finances don't match this ratio.
Applying for a Fannie Mae-Backed Loan
Applying for a loan backed by Fannie Mae is easy at any approved lender. You'll start by filling out a loan application and submitting basic financial information. You'll typically need to provide two years' worth of tax statements and your most recent pay stubs. You'll also need your W-2 or 1099 statements.
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Before you apply, be sure you've pulled a copy of your credit report. You can access it online for free from annualcreditreport.com. This will show you any errors in your report or any red flags that may come up that a lender may have questions about. Your credit report and score are largely what will determine the interest rate on your loan.
It's also helpful to have an idea of how much you can afford before you apply. You'll want to take a look at everything you have coming in, as well as your expenses. When you apply, your lender will look at your debt-to-income ratio. This ratio shows how much debt you have in relation to the income you earn. The lower your debt-to-income ratio is, the better.
Your debt-to-income ratio tells lenders how effectively you manage your credit. If you're not using all your available credit, this is a good sign. If all your cards are maxed out, it can mean you aren't using your credit responsibly or you're living above your means, and the lender may need to raise the interest rate of your potential loan to mitigate risk.
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