Fannie Mae and Freddie Mac are government-sponsored companies that buy and sell home loans on secondary mortgage markets. Both help make affordable financing available to homebuyers by providing liquidity to mortgage lenders. Although they have different stories, they are more similar than different. However, there are some differences in how they purchase mortgages and the home loan programs they offer. A Financial Advisor could help you create a financial plan for your home buying needs and goals.
Fannie Mae and Freddie Mac: The Basics
Fannie Mae was established in 1938 as the Federal National Mortgage Association (FNMA), a government-owned financial organization. Its purpose was to provide lenders with financing to make home loans by buying out the lender’s mortgages. Mortgages were bundled and repackaged into mortgage-backed securities for sale to investors. Fannie Mae innovated the 30-year fixed rate mortgage this is still the norm today.
Freddie Mac came later, in 1970, as the Federal Home Loan Mortgage Corporation (FMCC) which was, like Fannie Mae, wholly government owned. Both are often referred to as GSE, short for “government sponsored enterprise”. Freddie Mac’s goal was to expand the secondary mortgage market and in particular to compete with Fannie Mae, which had come to dominate the market and become a private, shareholder-owned company a few years earlier. In 1989, Freddie Mac also became privately owned.
Both GSEs played a role in the housing crisis that began in late 2007. By encouraging financial institutions to lend freely, largely due to heavy political pressure, they contributed to the unsustainable rise in house prices. that fueled the boom and subsequent recession. After suffering huge losses on defaulting mortgages, they were bailed out and taken over by the federal government. Armed with deep pockets in Washington, the GSEs bought up nearly every mortgage sold after the collapse and helped prevent an even worse debacle.
More recently, the two have been instrumental in helping borrowers affected by the Covid pandemic. The CARES Actofficially called Coronavirus Aid, Relief and Economic Security Act, called on GSEs to grant owners up to 18 months forbearance.
How GSEs work with lenders
GSEs do not provide loans to home buyers. Instead, they allow private financial institutions, including banks, to provide loans. They do this by buying loans from lenders, replenishing the lenders’ cash flow so they can provide more funding. GSEs make money by retaining a portion of the loans and collecting interest, but most are repackaged and sold to investors, who then collect the interest the borrowers pay.
In 2019, Fannie and Freddie acquired 52% of all mortgages in the United States, dominating the market among them. Without Fannie and Freddie, it would probably be harder to get a home loan. And, likewise, mortgage lenders would struggle to find money to make loans.
Because of their dominance, it is important for mortgage bankers to ensure that many of the loans they make can be sold to GSEs. Fannie and Freddie set standards for the loans they will buy. This is how they can assure buyers of mortgage-backed securities that the securities are sound and safe. As an additional incentive, the GSEs guarantee that interest and principal on loans will be repaid. This further reduces costs for borrowers.
Loans that meet GSE standards are called conforming or conventional loans. To be compliant, loans must not exceed a certain amount, lenders must meet debt ratios and a number of other criteria must be met.
Generally speaking, GSEs buy low-risk loans. For example, in 2019, 28% of borrowers had a DTI above 43%, while only 23% of loans purchased by GSEs had DTIs that high. They are half as likely to buy loans from borrowers with credit scores below 660.
Compared to their competitors in the secondary mortgage market, Fannie and Freddie are more likely to buy refinance loans and 15-year fixed rate loans. They are less inclined to buy adjustable-rate loans and loans granted to first-time buyers.
Fannie Mae and Freddie Mac: Differences
Fannie and Freddie also have some differences. One of the most important is where they get their loans. Fannie Mae primarily purchases loans from large commercial banks. Freddie Mac’s target market is small banks, credit unions, savings and loans.
Both also offer different loan programs. At Fannie Mae’s HomeReady program targets buyers who earn no more than 80% of the median income in their area. Freddie Mac’s Possibility of reception The program allows down payments as low as 3%.
Otherwise, their guidelines are very similar, although it is possible for one borrower’s application to be declined by one GSE and approved by the other. Lenders use automated desktop underwriting software provided by GSEs to know in advance if a lender’s application is likely to be approved. Fannie Mae’s is Desktop Underwriter and Freddie Mac’s is Loan Produce Advisor.
Fannie Mae and Freddie Mac are very similar organizations created by the federal government to provide liquidity to mortgage lenders and help make affordable home loans available to more people. The two buy most mortgages originating in the United States. Their guidelines for loan compliance heavily influence how lenders will lend money. The main difference is that Fannie Mae’s loans are mostly from large banks, while Freddie Mac’s market is made up of smaller financial institutions.
Advice for home buyers
- If you are considering taking out a home loan, a Financial Advisor can help you figure out what you can afford and how to fit it into your overall financial situation. SmartAsset’s free tool connects you with up to three financial advisors who serve your area, and you can interview your advisors at no cost to decide which one is best for you. If you’re ready to find an advisor who can help you achieve your financial goals, start now.
- The SmartAsset Mortgage Comparison Tool will help you compare mortgage rates from top lenders so you can find the one that best suits your needs.
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