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- If you don’t qualify for a conventional or government-backed mortgage, a portfolio loan may be an option.
- Portfolio loans may have looser standards for credit scores, DTI ratios, or maximum loan amounts.
- However, portfolio lenders may charge more because they take on more risk than traditional lenders.
Atypical buyers, such as real estate investors, may be interested in portfolio loans. Unlike conventional mortgages that are resold in the secondary market, lenders create and maintain portfolio loans themselves, which affects the process for borrowers.
Portfolio loans can be more flexible with lower underwriting standards. However, they can also incur higher fees and interest. Here’s how portfolio loans work, who should consider one, and potential pros and cons to consider.
What is a portfolio loan?
Many mortgages are sold on the secondary market to government sponsored enterprises (GSEs), including Freddie Mac and Fannie Mae. They buy conventional mortgages from lenders to create more liquidity, stability and affordability in the housing market.
Therefore, conventional loans must meet strict requirements regarding the borrower’s credit score and debt-to-income ratio (DTI), as well as minimum down payment. The same goes for loans backed by the Federal Housing Administration (FHA) or the Department of Veterans Affairs (VA).
A portfolio loan is a mortgage issued by a bank that keeps the loan on its balance sheet (that is, in its own portfolio) rather than selling it, says Mason Whitehead, branch manager at Churchill Mortgage in Dallas.
When issuing a portfolio loan, a lender does not necessarily have to meet the same eligibility criteria as when issuing a conventional loan, which can provide borrowers with more flexibility.
At the same time, it can be riskier for the lender, causing them to charge more interest, as well as higher fees than a conventional loan.
How does a portfolio loan work?
Portfolio loans are not entirely different from conventional mortgages from the borrower’s perspective. Both types of home loans involve borrowing a sum of money from a lender that you repay over time. The lender and borrower agree on terms such as interest rates, fees, and repayment. The big difference is how the lender rates you, the borrower, during the underwriting process.
A classic loan comes from a private lender. Often the lender will consider selling the mortgage to a government-sponsored entity like Fannie Mae or Freddie Mac, which means they must follow specific lending guidelines regarding credit scores, DTI ratios, and down payments. and requires detailed financial documentation.
A portfolio lender is not required to follow these guidelines, as the loan remains on its own balance sheet. Lenders can set their own qualification guidelines and the minimum or maximum amount you can borrow, the interest rate they charge, etc. A portfolio loan may offer you customized terms, such as semi-monthly payments.
This makes portfolio loans more attractive to some borrowers, such as those who don’t have excellent credit or proof of stable income. “An example of this might be a borrower who has been self-employed for less than two years but has strong business and cash flow,” Whitehead said.
It is also possible that a borrower does not enjoy more relaxed requirements or flexibility in terms of loan terms with a portfolio loan than with a conventional loan. Some portfolio lenders may still apply strict standards in order to protect themselves and ensure that they will make sufficient profit from these loans.
In fact, there could be a substantial compromise. Portfolio lenders may set higher interest rates and higher minimum down payments, and may charge additional fees that are not common with conventional lenders.
Advantages and disadvantages of a portfolio loan
As with any type of mortgage, a portfolio loan has its pros and cons. For some types of borrowers, a portfolio loan may be the best or only option. Here are the main advantages and disadvantages:
How to qualify for a portfolio loan
If you’re interested in a portfolio loan, you’ll likely need to research mortgage lenders that offer them, such as local banks and credit unions, as well as online lenders.
Once you’ve located the lenders that are set up to provide portfolio loans, learn about their application process and specific requirements.
Portfolio loans are not for everyone. But some types of borrowers may want to take a closer look at portfolio loans. Since these lenders can choose their own criteria, you may be able to get a portfolio loan even in the following circumstances:
- You have a poor credit score or a limited credit history
- You have a high debt ratio
- You are self-employed with limited proof of income
- You are a non-resident alien
- You are looking to buy a property to renovate
- Looking to buy a property that is priced above lending limits
Since portfolio lenders generally do not limit the number of properties you can purchase or require a certain condition of ownership, investors can benefit from portfolio loans. This can make it easier to finance the purchase of a repairman, for example, or multiple properties if you are looking to become a homeowner.
However, since borrower requirements can vary from lender to lender, it is usually best to ask several individual lenders for their specific guidelines.
The bottom line
For borrowers who don’t qualify for most conventional mortgages or those under the FHA or VA umbrella, a portfolio loan can be an attractive alternative.
But remember that just because you qualify for a portfolio loan doesn’t mean it’s the best option for your situation. Be sure to assess the total costs associated with the loan, such as interest charges and any prepayment fees or penalties.
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