What Are Non-Conforming Loans and How Do They Work?

Understanding the distinctions between conforming and non-conforming loans is important for anyone financing a home. These classifications influence eligibility, interest rates, and available loan amounts, directly impacting a borrower’s options. This article clarifies what non-conforming loans are and how they function.

Understanding Conforming Loans

Conforming loans serve as a baseline in the mortgage industry, representing a significant portion of home financing. These loans adhere to specific criteria established by government-sponsored enterprises (GSEs), primarily Fannie Mae and Freddie Mac. Congress created these entities to provide stability and liquidity to the mortgage market by purchasing loans from lenders, thereby freeing up capital for new lending.

The Federal Housing Finance Agency (FHFA) oversees Fannie Mae and Freddie Mac and annually sets the maximum loan limits for conforming mortgages. For 2025, the baseline conforming loan limit for a single-unit property in most areas is $806,500, though this amount can be higher in designated high-cost regions, potentially reaching up to $1,209,750.

Beyond loan amount, conforming loans also require borrowers to meet specific standards for credit scores, typically a minimum FICO score of 620, and debt-to-income ratios, ideally 36% or less, though up to 50% may be allowed with compensating factors. Adherence to these guidelines makes loans eligible for purchase by Fannie Mae and Freddie Mac, which then package them into mortgage-backed securities for investors.

Defining Non-Conforming Loans

Non-conforming loans are mortgages that do not meet the underwriting standards or loan limits set by Fannie Mae and Freddie Mac. Because they fall outside these specific guidelines, they cannot be sold to these GSEs in the secondary mortgage market. Instead, lenders typically keep these loans on their own books as part of their investment portfolios.

A loan might be classified as non-conforming for several reasons. The most common is exceeding the conforming loan limits, particularly for higher-priced properties. Other factors include a borrower’s credit score or debt-to-income ratio not aligning with conforming standards, or the property type being considered unusual by GSE guidelines.

While non-conforming loans do not fit the GSE framework, they are legitimate financial products offered by various lenders, providing financing solutions for diverse borrower needs. These loans allow for greater flexibility in underwriting, as lenders are not bound by the strict rules of Fannie Mae and Freddie Mac. This flexibility can accommodate unique financial situations or property characteristics that would otherwise prevent a borrower from obtaining a conventional mortgage. However, this increased flexibility often comes with different terms, reflecting the higher risk lenders assume by holding these loans themselves.

Common Types of Non-Conforming Loans

Non-conforming loans comprise several categories, each addressing specific borrower situations or property values that fall outside GSE standards. These types provide alternative financing avenues for individuals who may not qualify for a traditional conforming mortgage.

Jumbo Loan

One prominent type is the Jumbo Loan, specifically designed for loan amounts that exceed the conforming limits set by the FHFA. As of 2025, this generally means a mortgage for more than $806,500 in most areas, or over $1,209,750 in high-cost markets. Jumbo loans are necessary for financing expensive properties, and because they cannot be guaranteed by Fannie Mae and Freddie Mac, they are considered riskier for lenders, often remaining on the lenders’ own books.

Subprime Loans

Subprime Loans are offered to borrowers who have lower credit scores or a history of financial difficulties, indicating a higher risk of default. These borrowers typically do not meet the minimum credit score requirements for conforming loans, which are generally 620 or higher. While the term itself is less common today, similar products exist for those with weakened credit histories.

Alt-A Loans

Alt-A Loans occupy a middle ground between prime and subprime mortgages, catering to borrowers who have generally good credit but may present one or two risk factors that prevent them from qualifying for a prime loan. This can include limited documentation of income or assets, higher loan-to-value ratios, or non-traditional income sources. These loans provide flexibility for self-employed individuals or those with complex financial profiles who may not fit traditional underwriting models.

Portfolio Loans

Lastly, Portfolio Loans are mortgages that lenders originate and choose to keep in their own investment portfolios rather than selling them on the secondary market. Because they are not resold, these loans do not need to meet Fannie Mae and Freddie Mac’s conforming standards, allowing lenders to set their own underwriting criteria and terms. This flexibility makes portfolio loans suitable for borrowers with unique financial circumstances or for properties that do not fit conventional loan parameters.

Key Characteristics of Non-Conforming Loans

Non-conforming loans share several common attributes that distinguish them from conforming mortgages. These characteristics arise from the fact that they are not eligible for purchase by government-sponsored enterprises.

Underwriting Standards

Lenders offering non-conforming loans typically employ their own proprietary underwriting standards. This allows for greater flexibility, as lenders can evaluate a borrower’s overall financial situation, including assets and income stability, rather than relying solely on rigid credit scores or debt-to-income ratios. This individualized assessment can benefit borrowers with unique financial profiles that do not align with conventional guidelines.

Interest Rates

The interest rates for non-conforming loans often differ from those of conforming loans. Due to the increased risk borne by lenders who retain these loans, interest rates can be higher than those for conforming mortgages. However, for highly qualified borrowers seeking jumbo loans, rates can sometimes be competitive with, or even lower than, conforming rates due to market dynamics and increasing GSE fees.

Down Payment Requirements

Down payment requirements for non-conforming loans vary considerably. While some riskier non-conforming loans might require higher down payments to mitigate lender exposure, certain portfolio products or government-backed non-conforming loans (like VA or USDA loans, which are non-conforming by nature) may offer lower or even no down payment options. For jumbo loans, down payments typically range from 10% to 20% of the property’s purchase price, and lenders may also require proof of liquid reserves covering several months of mortgage payments.

Availability

Non-conforming loans are generally available from a broader array of financial institutions compared to conforming loans. Banks, credit unions, and private lenders, including those specializing in unique or higher-risk loans, offer these products. This wider availability ensures that borrowers with diverse needs can find suitable financing options outside the standard conforming market.