Fannie Mae and Freddie Mac Loans: How Do They Work?

Fannie Mae and Freddie Mac

How Do Fannie Mae and Freddie Mac Loans Work?

You may come across many unfamiliar terms when shopping for a home mortgage. Typically, you will encounter two terms: Fannie Mae and Freddie Mac. But what are Fannie Mae and Freddie Mac, and what do they have to do with home loans? 

Freddie Mac and Fannie Mae sound like they could be the names of your favorite aunt and uncle, but they are two primary mortgage buyers and sellers. That means they buy credits from banks, bundle them together, and sell these mortgages in the housing market. The funds raised by banks after selling these loans enable lenders to provide more credits to home buyers.

Both Fannie Mae and Freddie Mac are government-insured companies and have set specific credit standards for borrowers. The lendings that follow those requirements are referred to as conforming loans. Follow the instructions to learn more about how Fannie Mae and Freddie Mac credit lines work.

How does Fannie Mae Loan work?

Fannie Mae, or the Federal National Mortgage Association, buys traditional loans from major banks. Fannie Mae requires these banks to follow specific guidelines for lending funds to home buyers. These instructions help ensure that Fannie Mae can offer these funds to capitalists. They include: 

  • Debt-to-income (DTI) ratio up to 50%
  • A credit rating of at least 620
  • Initial Deposit of at least 3% of the residence purchase rate– the 3% repayment applies to HomeReady funding, geared to purchasers with low income or money for a down payment.
  • Private mortgage insurance (PMI) is typically required if the down payment is less than 20% of the house’s purchase price.

How Do Freddie Mac Loans Work?

Freddie Mac or Federal Housing Mortgage Corporation buys regular loans from small banks. The following are the rules set by Freddie Mac for granting credits to borrowers.

  • The debt-to-income ratio is as high as 45%; though, 33% to 36% is recommended.  
  • The credit rating of at least 620
  • Deposit as low as 3% of the purchase price for HomeOne financings, geared toward new buyers, and as low as 3% for House Possible loans, developed for novice customers, low-income buyers, and senior citizens.
  • PMI is typically required when the cost paid by the home buyer is less than 20% of the purchase price of the house.

Why Do Fannie Mae and Freddie Mac Mortgage Loans Exist?

Freddie Mac and Fannie Mae were both founded by Congress. Although they do not directly provide loans to home buyers, they still play a significant role in financing home loans. By purchasing mortgage loans and selling them to investors, Fannie Mae and Freddie Mac release funds for banks, mortgage lenders, and other creditors to fund home purchases. It also helps maintain low-interest rates and stabilize the credit market. 

Fannie Mae firm was established in 1938, and Freddie Mae was in 1970. The federal government guarantees its structure, so it will not default on debt. During the COVID19 pandemic, U.S. homeowners who received loans from Fannie Mae or Freddie Mac could benefit from potential financial assistance if they had difficulty paying their mortgages. Relief alternatives include reducing monthly payments or creating new repayment plans. 

Alternatives to Fannie Mae and Freddie Mac Mortgage Loans 

When Fannie Mae and Freddie Mac conforming mortgage loans do not work, you have other options. These are four of them. 

1) FHA Loans

FHA home mortgages are insured by the Federal Housing Administration (FHA) that offer low down payment options (minimum 3.5%) and minimum credit requirements (500, only if a 10% down payment is possible).

2) VA Loans

VA loans, approved by the U.S. Department of Veterans Affairs, are designed for active military members, veterans, and surviving spouses.

3) USDA loans

This mortgage loan is provided by the United States Department of Agriculture (USDA). These mortgages are available to low- and middle-income borrowers living in rural areas.

4) Jumbo Loans

Jumbo mortgages exceed the credit limit set by Fannie Mae and Freddie Mac for regular loans. In most regions of the United States, the credit limit in 2021 is $548,250, and in high-cost areas, the limit in 2021 is $822,375.

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