The mortgage business is a complicated and ever-changing industry. It is important that you understand how the mortgage market works and how the lenders make their profit. In doing so, you will gain an appreciation of loan programs and why certain loans are offered by certain lenders.


The first broad category of distinction is institutional versus private. Institutional lenders include commercial banks, savings and loans, credit unions, mortgage banking companies, pension funds, and insurance companies. These lenders generally make loans based on the income and credit of the borrower, and they generally follow standard lending guidelines. Private lenders are individuals or small companies that do not have insured depositors and are generally not regulated by the federal government.


First, these markets should not be confused with first and second mortgages. Primary mortgage lenders deal directly with the public. They “originate” loans, that is, they lend money directly to the borrower. Often referred to as the “retail” side of the business, lenders make a profit from loan processing fees, not the interest paid on the loan.

Primary mortgage lenders generally lend money to consumers, then sell the mortgage notes (in large packages, not one at a time) to investors on the secondary mortgage market to replenish their cash reserves.

The largest buyers on the secondary market are the Federal National Mortgage Association (FNMA or “Fannie Mae”), the Government National Mortgage Association (GNMA or “Ginnie Mae”) and the Federal Home Loan Mortgage Corporation (FHLMC or “Freddie Mac”). Private financial institutions such as banks, life insurance companies, private investors, and thrift associations also buy notes.


Many consumers assume that “mortgage companies” are banks that lend their own money. In fact, a company that you deal with may be either a mortgage banker or a mortgage broker.

A mortgage banker is a direct lender; it lends you its own money, although it often sells the loan to the secondary market. Mortgage bankers (also known as “direct lenders”) sometimes retain servicing rights as well.

A mortgage broker is a middleman; he does the loan shopping and analysis for the borrower and puts the lender and borrower together. Many of the lenders through which the broker finds loans do not deal directly with the public (hence the expression, “wholesale lender”).


“Conventional” financing, by definition, is not insured or guaranteed by the federal government. Conventional loans are generally broken into two categories: “conforming” and “non-conforming.” A conforming loan is one that conforms or adheres to strict Fannie Mae/Freddie Mac loan underwriting guidelines.

Conforming loans are a low risk to the lender, so they offer the lowest interest rates. Conforming loans also have the strictest underwriting guidelines.

Conforming loans have three basic requirements:

1. Borrower Must Have a Minimum of Debt: Lenders look at the ratio of your monthly debt to income. Your regular monthly expenses (including mortgage payments, property taxes, insurance) should total no more than 25 to 28% of gross monthly income (called “front end ratio”). Furthermore, your monthly expenses, plus other long-term debt payments (e.g., student loan, automobile, alimony, child support) should total no more than 36% of your gross monthly income (called “back end ratio”). These ratios can sometimes be increased if the borrower has excellent credit or puts more money down.

2. Good Credit Rating: You must be current on payments. Lenders will also require a certain minimum credit score called a “FICO” (

3. Funds to Close: You must have the requisite down payment (generally 20% of the purchase price, although lenders often bend this rule), proof of where it came from, and a few months of cash reserves in the bank.


Non-conforming loans have no set guidelines and vary widely from lender to lender. In fact, lenders often change their own non-conforming guidelines from month to month.

Non-conforming loans are also known as “sub-prime” loans, because the target customer (borrower) has credit and/or income verification that is less-than-perfect. The sub-prime loans are often rated according to the creditworthiness of the borrower – “A,” “B”, “C” and “D.”

The sub-prime loan business has grown enormously over the past ten years, particularly in the refinance business and with investor loans. Every lender has its own criteria for sub-prime loans, so it is impossible to list every loan program available on the market. Suffice it to say, the guidelines for sub-prime loans are much more lax than they are for conforming loans.

by Attorney William Bronchick