There are many different types of mortgage-backed securities, and I want to review a few of these primary “MBSs”, and the ones that you will most likely fall under when financing for residential lending!
The most popular agency types are Fannie Mae, Freddie Mac, VA, FHA, USDA, along with Non QM (stands for non-qualified mortgage) and that’s pretty much the bulk...
An agency MBS is a mortgage-backed security backed by quasi-governmental agencies. After the crash of 2007, Fannie Mae and Freddie Mac were taken under conservatorship (there are talks of the government completely stepping away from Fannie Mae and Freddie Mac in the future). To avoid the collapse of the mortgage system during the crash, the U.S. government had to step in and loan Fannie and Freddie billions of dollars… Following the credit crisis that started in 2007-2008, the FOMC (the Federal Open Market Committee) stepped in to give additional funds / stimulus by adding to their portfolio as opposed to just buying U.S. Treasuries, such as the 10-year Treasury and the 5-year Treasury. This is part of what is called “quantitative easing”: to essentially keep borrower rates and costs down.
In the housing market, low rates mean more home that a borrower can afford. On a $500k property value with 20% down, a $400k loan amount at 3% at the peak of quantitative easing is about $12k/year or $1k/month in interest vs. what may have been if quantitative easing not been initiated by the FOMC - rates could have been as high as 6%, which would be very tough on the real estate market! Home values would have declined even further because mortgage payments would have doubled (6% of $400k is about $24k per year vs. $12k at 3%). Long story short, that was the reason they stepped in to help Fannie Mae and Freddie Mac.
These Fannie Mae and Freddie Mac loans are more conventional, “cookie cutter” loans, that adhere to their guidlines, but there are also non-conforming loans.
That brings to mind the Federal Housing Administration, or “FHA”. FHA is typically used for borrowers requiring a lower down payment. They take mortgage borrowers with as little as 2.5% down, and their guidelines are typically more relaxed: they allow for more derogatory items than Fannie Mae and Freddie Mac on your credit report, such as bankruptcies and foreclosures. An FHA loan is essentially a mortgage issued by an FHA-approved lender, insured by the FHA (brought on to help low to moderate income borrowers in qualifying). The FHA has been helping homeowners since 1934. It makes it a little easier to qualify, but it does come with mortgage insurance. Typically they will pay for a 1.75% upfront mortgage insurance premium, so 1.75% goes to the FHA as insurance in the event of foreclosure. In addition to upfront mortgage insurance premium or “upfront MIP”, that mortgage insurance premium is typically higher than a conventional monthly mortgage insurance premium would be, sometimes as high as three times the amount! For instance, on a $400k loan amount, you might pay anywhere from $250-$350/month whereas on a conventional loan, you might pay as low as $50/month.
To contrast, conventional loans only require you to have mortgage insurance on a 30-year fixed if you’re above 80% loan-to-value. In an FHA loan, you are always required to have mortgage insurance, regardless of loan-to-value. The verdict? While FHA loans do allow credit or income-challenged borrowers the chance to buy, they do not come without costs: they are much more expensive than a conventional loan overall. Anytime you do qualify for a conventional loan, you’re better off taking a conventional Fannie Mae or Freddie Mac loan over an FHA loan.
Then there is the VA loan. Only veterans are eligible for VA loans (or spouses of veterans, or spouses of deceased veterans). Typically, VA loans do come with slightly lower rates than conventional loans, and also go all the way up to 100% financing, with no mortgage insurance. So they are definitely beneficial to those looking to do 100% financing, or say, take cash out up to 90% loan-to-value (sometimes more!) The one thing to understand on a VA loan is what you are eligible for; a borrower will typically have to pay an upfront funding fee, as high as 3.25%. In other words, on a $500k loan amount, a veteran would have to pay as high as $15,750 to the VA upon funding of the loan. Though this can be wrapped into the loan amount, this fee makes the conventional loan a better deal than the VA loan, when comparing apples to apples on a best-execution scenario.
A best-execution scenario is typically your cookie cutter 75% loan-to-value or below, 740 FICO or above, primary residence, etc. Another difference between VA loans and conventional loans are that VA loans can only be used for financing of one’s primary residence, not an investment property or a second home. There is, however, an exception to the 3.25% funding fee if the veteran has a disability from their military service. Now, this rate and fee structure will beat out pretty much any other loan or mortgage-backed security in existence, meaning best-execution rates will typically get beat by a veteran with a disability from their service. With no closing costs, you’re looking at an interest rate anywhere from .25 to .375% lower.
Last, there are “Non-QM” loans or non-qualifying mortgage loans. Non-QM loans are loans that don’t fall under the conventional guidelines. These are for homebuyers who don’t fall under the standard mortgage underwriting lending box for a variety of reasons, often times related to credit and income. They might have excellent credit, but they’re self-employed and their income is going to look different than someone who is W-2d. A lender might allow them to use bank statement deposits as income from their business (if they can show 12 months). Non-QM loans are also good for borrowers interested in a riskier loan type such as an interest-only, or longer loan terms, such as a 40-year mortgage. Non-QM loans on the rise as investor appetite grows with further seasoning behind a rehabilitated housing market. They are definitely making a comeback, however Non-QM loans will come with a slightly higher rate - anywhere from 2-3% higher than your conventional rates - just because they are not as liquid. It takes a unique investor that wants those types of loans, but as they get more popular, they’ll be more liquid. They will probably see a considerable rise over the next 3-5 years.
That’s just a small overview of the different types of agency-backed securities out there. A knowledgeable loan officer will be able to explain to you what each type of loan is, when it is best used. They’ll be able to pair you up with the best loan the market has to offer for your individual situation. It’s always important to ask a lot of questions with regards to each different agency type.
To check rates any time without speaking to a loan officer, feel free to check out our live quote generator, or feel free to give Prospect Financial Group a call at 858-605-0952!
Prospect Financial Group
948 Garnet Avenue
San Diego, CA 92109
NMLS: 349089 | BRE: 01837707
Jason Vondrak has been in the mortgage industry since 2004 and co-founded the mortgage brokerage Prospect Financial Group in 2006 in San Diego, California. Today he serves as President and CEO of Prospect Financial Group and the president and founder of Prospect Property Group, a real estate development company, established in 2012.
"I've had the privilege to serve in an industry that exists to ensure homeownership remains among the top priorities of government and citizens alike. Over the years, it has been a pleasure working alongside homeowners, real estate professionals, and business associates combining efforts and teaming up to help homeowners realize the dream of home ownership."
We've been helping customers afford the home of their dreams for many years and we love what we do.
Company NMLS: 365482
948 Garnet Ave
San Diego, California 92109
Phone: (858) 605-0952