Definitions to walk your customers through the loan landscape.
Home searches center on locations and amenities, but for most people, homebuying comes down to a key factor: financing. Being able to educate your customers about mortgage basics demonstrates your expertise and value as a real estate professional. Beyond that, it’s important that you understand how your clients’ financing could impact a sale.
Since there’s a lot to keep track of, we’ve compiled this cheat sheet of loan terms. You’re probably already familiar with many (if not most) of them, but consider it a helpful refresher and a handy guide to reference when your customers bring up mortgage questions.
Let’s run through the ABCs (and ARMs, QMs, and other alphabet combos) of paying for a house.
Loan Products
At their most basic level, mortgages can be lumped into two categories based on how they accrue interest.
Loan Types
Your customers have likely heard the terms “conventional loan” and “government-sponsored loan” but may not understand what they mean. The difference is in who assumes the loan’s risk.
Government-Sponsored Loans. With these, the government insures the loan, and lower credit and down payment requirements make it easier for the buyer to qualify.
FHA loans allow buyers to purchase a home with as little as 3.5% down but require a mortgage insurance premium (MIP).
VA loans usually require no down payment and no mortgage insurance. They are available to eligible veterans, active-duty members, reservists, National Guard members, and surviving spouses.
USDA loans are available for homes in rural areas. They require no down payment but do require mortgage insurance.
Conventional Loans. With these, the lender backs the loan, so they have more stringent credit and down payment requirements than government-backed loans. Conventional loans fall into two categories:
Conforming loans adhere to loan limits and other requirements set by the Federal Housing Finance Agency (FHFA). As of 2023, the limit is $726,200 in most of the country, but in high-cost areas, the limit is higher.
Non-conforming loans are simply loans that don’t meet the FHFA’s requirements to be sold to Fannie Mae or Freddie Mac. Also known as non-qualified mortgage (Non-QM) loans, these are for borrowers who might not qualify for other loan types, either because of the amount they need to borrow or their financial situation. Here are two common examples of non-QM loans:
Jumbo loans are for properties that exceed the conforming loan limits. Interest rates are usually higher, and there may be stricter credit standards and underwriting requirements.
Bank statement loans allow a borrower to verify their income with bank statements rather than W-2s or tax returns. This can be helpful for people who are self-employed, have inconsistent income (like gig-economy jobs), or claim significant tax deductions.
Some loan types have been around awhile but are less well known. The era of ultra-low fixed rates pushed these products to the backburner, but now, higher rates — combined with still-elevated home prices — are making them more attractive.
Buy-down loans involve a seller or builder helping a buyer qualify for a mortgage by offsetting the cost of the first few years of the loan. Typically, this is done by paying the lender to reduce the interest rate for the first two or three years, after which the buyer pays the full interest rate.
Assumable loans allow a buyer to take over (or “assume”) an existing home loan without applying for a new mortgage. The remaining loan balance, interest rate, repayment period, and other loan terms stay the same, but the buyer takes responsibility for the debt. This may be an attractive option when the existing loan has a lower rate than the prevailing rates. This typically involves a higher down payment, though, because the buyer has to buy out the seller’s equity. (Example: The seller owes $200,000 on a house that’s worth $300,000. The buyer has to pay the seller $100,000 and then assumes the owner’s original loan.) Most government-backed loans (FHA, VA, USDA) are assumable, while conventional loans are generally not.
For all of these loan products, your customers will need to understand the key difference between being “pre-approved” and “pre-qualified.”
Pre-approval generally means that your customer’s finances have been reviewed and they have passed a credit check, so they will be approved for the loan as long as their financial situation and employment doesn’t change before closing.
Pre-qualified generally means your customer has gotten an estimate of how much they can borrow, based on a quick check of finances (possibly done over the phone). It’s not a firm offer, but it can get them on the road to home shopping quickly.