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In a bid to expand U.S. homeownership opportunities, Fannie Mae, the government-sponsored corporation that owns and services a vast number of the country's home mortgages, recently expanded its lending guidelines. Fannie Mae now allows some loans with loan-to-value (LTV) ratios as high as 97%—in other words, loans with minimum down payments as low as 3%.
What Is Fannie Mae?
Fannie Mae is a federally sponsored corporation that helps ensure banks, credit unions and other mortgage issuers have the funds to lend to would-be homeowners. Along with its sister corporation Freddie Mac (the Federal Home Loan Mortgage Corporation), Fannie Mae buys mortgages from financial institutions, which use the cash they receive to issue new loans. Fannie and Freddie may keep the loans they buy in their portfolios or bundle them into mortgage-backed securities (MBS), which are financial instruments traded by investors on public exchanges, much like stocks.
To set quality standards for MBS offerings and to minimize the likelihood of buying mortgages that borrowers can't pay back, Fannie Mae and the Federal Housing Finance Agency (the agency that regulates it) have imposed strict requirements on the loans Fannie Mae will buy.
Lenders like knowing they can sell loans to Fannie Mae, so most mortgages they issue meet (or exceed) Fannie's minimum lending requirements.
Applicants for what are known as conforming loans must meet the following requirements:
- A FICO® Score☉ of 620 or higher.
- A debt-to-income ratio (DTI) at or below 45%—or 50% for applicants with large cash reserves. DTI is the percentage of an applicant's monthly pretax income that gets used for debt payments, including anticipated payments on the prospective mortgage.
- A loan amount that falls under Fannie Mae's and Freddie Mac's annual conforming loan limit for the county where the home is located. The Federal Housing Finance Agency resets these limits each year: For most of the country in 2021, the maximum conforming loan amount is $548,250; in counties where housing is costliest, the limit is $822,375.
- Historically, Fannie Mae also required a minimum down payment of at least 5% of the home's market value. Put another way: On a conforming mortgage, the LTV—the percentage of the home's value represented by the loan amount—could not exceed 95%. Fannie Mae LTV 97 loans increase the maximum allowable LTV to 97%, allowing down payments as low as 3%
Extending Existing Loan Products
Fannie Mae 97 LTV loans are available in two forms, both as extensions of existing Fannie Mae Loan programs:
The Fannie Mae HomeReady 97 LTV Loan
- Intended to help lower-income borrowers buy homes.
- Qualified applicants must have incomes below 80% of their local area median income.
- In contrast to HomeReady loans with LTVs of 95% or lower, HomeReady 97 LTV mortgages require all candidates to have credit scores.
- Recipients of 97 LTV loans must purchase private mortgage insurance (PMI) to protect the lender (and Fannie Mae and its investors) from financial loss in case they fail to repay the loan. Fannie Mae allows HomeReady borrowers to buy PMI at a discount, however. PMI fees can be removed after 20% of the loan amount has been repaid.
Fannie Mae Standard 97 LTV loans
- Open to any borrower, provided at least one applicant is a first-time homebuyer.
- Standard 97 LTV mortgages require all applicants to have credit scores.
- Borrowers issued Standard 97 LTV mortgages must also purchase PMI.
Fannie Mae and Fees
Like all other loans that conform to Fannie Mae lending guidelines, 97 LTV mortgages are subject to fees known as loan level price adjustments (LLPAs). These fees are calculated based on a number of variables that may apply to a given combination of loan and borrower(s), including:
- Credit score: Borrowers with credit scores ranging from 620 to 639 are charged an extra 3.5% of the loan amount on an 97 LTV loan, while those with higher scores are charged much less, with a minimum fee of 0.75% of the loan amount applying to borrowers with credit scores of 740 or greater.
- Whether the mortgage rate is fixed or adjustable: An adjustable-rate mortgage adds an LLPA fee of 0.25% of the loan amount on a 97 LTV loan.
- Whether the home being financed is a mobile home: This is denoted by Fannie Mae as a "manufactured home," or a "site-built" home. A manufactured home adds an LLPA fee of 0.5% of the loan amount to a 97 LTV loan.
Fannie Mae LLPAs are cumulative, so if your credit score is, say, 630 and you finance a manufactured home with an adjustable-rate mortgage (ARM), you can expect total LLPA charges of 4.5% of the loan amount. In itself, that's a cost of thousands of dollars, and if you spread the fees out over the life of a 30-year mortgage, the interest charges that result will come to thousands more.
Alternatives to 97 LTV Loans
If you're a prospective homebuyer with limited access to cash for a down payment, a Fannie Mae 97 LTV Loan could be your best bet for getting started as a homeowner. But LLPAs could make your loan costly over time. While you're discussing loan options with lenders, it's worth exploring some other options as well:
- USDA loan: If you're a low-income borrower considering a HomeReady 97 LTV Loan, it may be worth investigating a USDA loan. The maximum income threshold for these mortgages is lower than for HomeReady 97 LTV loans, and the minimum credit score requirement is typically higher—around 640. Furthermore, USDA loans are only available in designated rural and suburban counties around the country, but if you can qualify, you could get a low-interest mortgage with a 0% down payment.
- FHA loan: If you're considering a Standard 97 LTV Loan, it's worth asking your lender about an FHA Loan. An FHA Loan typically requires a down payment of 3.5% (96.5% LTV), but you may qualify for one with a credit score as low as 580. (If your credit score is as low as 500, you might still qualify for an FHA Loan, but you'd need to make a 10% down payment.) An FHA Loan is subject to fewer fees than a Standard 97 LTV Loan but it requires you to make mortgage insurance payments for the entire life of the loan (unless you make a down payment of at least 10%, which allows removal of mortgage insurance payments after 11 years).
Which loans you're eligible for, and which will cost you least over the life of the mortgage, will depend on multiple factors, including your income, credit score, the amount you have available for a down payment and the price and location of the home you want to buy. Your lender or mortgage broker can help you break down which options are best for your financial situation.
Get Your Credit Mortgage-Ready
Whatever type of mortgage you're considering, sprucing up your credit so it's as good as it can be could mean major savings in interest rates and fees. Here are some tips for doing that:
- Review your credit. Three to six months before you begin to house hunt it's wise to check your credit report and credit score to know where you stand. You can get your Experan credit report and FICO® Score based on Experian data, updated monthly, as part of a free CreditWorks℠ Basic subscription account. A CreditWorks℠ Premium subscription gives you access to credit scores based on data from all three credit bureaus—Experian, TransUnion and Equifax—as well as mortgage-specific credit scores.
- Improve your credit, if necessary. Take the following steps to help get your credit mortgage-ready:
- If your credit scores are lower than you'd like, consider taking six months to a year to work on improving your credit score before you submit a mortgage application. You can do this by paying down credit card balances and continuing to make all your bill payments on time.
- Refrain from applying for new loans or credit cards at least six months before applying for your mortgage. The credit checks associated with those applications temporarily lower your credit scores, which can work against you when you're applying for a mortgage.
- Check your credit report for inaccuracies that could be affecting your credit score. If you believe incorrect information is appearing on your credit reports, notify each credit bureau to dispute it.
- Seek mortgage preapproval. In the mortgage preapproval process, you go through most of the home loan application process, including credit checks and verification of employment and income. The lender then gives you a letter stating how much they're willing to lend you and at what interest rate. Mortgage preapproval confirms your ability to make a purchase and adds credibility to any offer you make on a property.
Work with your lender or a mortgage broker to figure out what the total cost over time will be of any loan you consider. Also consider applying to multiple lenders once you settle on the type of loan that's best for you, because some lenders may charge you lower interest or fewer fees than others. Shopping around for the best deal can mean big savings over the life of a loan.