Fannie Mae and Freddie Mac: Understanding Government-Sponsored Loans

Written by: Lucy Lazarony

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For the majority of Americans, the road to homeownership starts with a mortgage, and many homebuyers will end up with a conventional mortgage loan. A conventional loan is a mortgage made by a private lender such as a bank or mortgage company, but there’s a good chance that even if a home loan starts there, it won’t stay there. That’s because some conventional loans are sold to the Federal National Mortgage Association (Fannie Mae) or Federal Home Loan Mortgage Corporation (Freddie Mac).

Fannie Mae and Freddie Mac are government-sponsored agencies that purchase large quantities of home loans to keep money circulating throughout the home mortgage economy. Fannie Mae and Freddie Mac bundle the home loans they purchase and sell them to investors as mortgage-backed securities in the open market. This transaction is done to keep money flowing so more people can get loans, which then contributes to the growth of homeownership in the United States.

What Is Fannie Mae?


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What Is Fannie Mae?

Fannie Mae was created by an act of congress in 1938 to make buying a home achievable for more Americans. Before then, homeownership was difficult to achieve, and the Great Depression led to many people losing their homes and banks not having enough money to lend for mortgages. Fannie Mae led the way to ensuring there would be money available for people to acquire long-term, fixed-rate home loans.

In the 1960s, Fannie Mae became a privately owned corporation under government sponsorship. With the housing crash of 2008, Fannie Mae was put into federal conservatorship after it began losing money due to the crisis. Today, it remains in conservatorship, but it is once again profitable.

Fannie Mae helps to provide liquidity to the mortgage loan market by purchasing conventional home loans from lenders. Money is then freed up for these lenders to grant home loans to more consumers. Once Fannie Mae buys mortgages from lenders, it either holds these mortgages in their portfolio or packages them into mortgage-backed securities that they sell in the open market.

What Is Freddie Mac?

Freddie Mac is the other government-sponsored home loan organization. It was established as a chartered private enterprise by the U.S. Congress through the Emergency Home Finance Act of 1970. It was taken into conservatorship by the government as a result of the 2008 housing crisis, where it remains as of today. It lost money for a few years after the crash, but is once again profitable.

As with Fannie Mae, Freddie Mac purchases conventional home loans, bundles these loans together, and then sells them to investors as mortgage-backed securities in the open market.

The aim of Freddie Mac is to keep mortgage money flowing throughout the economy, support the stability of the housing market and promote housing affordability. As is the case with Fannie Mae, Freddie Mac also doesn’t grant loans directly to homebuyers, but instead buys mortgage loans that meet Freddie Mac standards from approved lenders. With the money that lenders receive in return, they can make more loans to qualified homebuyers. Because of this program, Freddie Mac helps to promote homeownership in the United States.

Fannie Mae vs. Freddie Mac: What's the Difference?

A primary difference between Fannie Mae and Freddie Mac is who they purchase home loans from. Fannie Mae mostly purchases home loans from commercial banks, while Freddie Mac typically buys mortgages from smaller banks.

Fannie Mae was founded in 1938 and its headquarters are in Washington D.C. Freddie Mac was founded in 1970, and its headquarters are in McLean, Virginia. While Fannie Mae and Freddie Mac have some key differences, they are much more alike than they are different.

Fannie Mae
Purchases home loans from commercial banks
Founded in 1938
Chartered by the U.S. Congress
Taken over by the U.S. government and bailed out of financial collapse in 2008 in response to the housing crash
Returned to profitability in 2012
Reported net income of $16 billion in 2018
Offers the HomeReady mortgage program for non-conforming borrowers who meet other underwriting standards
Freddie Mac
Purchases loans from smaller banks
Founded in 1970
Chartered by the U.S. Congress
Taken over by the U.S. government and bailed out of financial collapse in 2008 in response to the housing crash
Returned to profitability in 2012
Reported net income of $9.2 billion in 2018
Offers the Home Possible mortgage program for non-conforming borrowers who meet other underwriting standards

How Fannie Mae and Freddie Mac Affect Your Home Loan

While they may not affect your day-to-day as a homeowner, Fannie Mae and Freddie Mac do affect your ability to get a home loan in some fundamental ways. Fannie Mae and Freddie Mac have guidelines for the loans that they buy, including how much is borrowed, the amount of the down payment and the credit score of the buyers.

Because Fannie Mae and Freddie Mac set the standards for the conventional home loans they are willing to buy, it’s in the lender’s best interest to ensure that some or all of the loans they grant conform to the standards set for by Fannie Mae and Freddie Mac. So even though Fannie Mae and Freddie Mac aren’t directly granting loans to consumers, they do have an impact on the terms of your loan by setting guidelines for lenders.

Your loan will also be affected if it is sold because you’ll submit your payments to a different company than the one who granted you the loan. The terms of your loan will remain the same.


Key Facts About Fannie Mae and Freddie Mac

What Assistance Do Fannie Mae and Freddie Mac Offer to Homebuyers?

Fannie Mae and Freddie Mac offer programs that help consumers buy homes and become responsible home buyers.

The Fannie Mae HomeReady mortgage is designed for creditworthy, low-income borrowers. Compared with the standard Fannie Mae mortgage, HomeReady comes with lower down payment requirements — as little as 3% — and lower mortgage insurance requirements. Unlike some home loans, borrowers using the HomeReady mortgage can use cash from gifts and grants for a down payment. Credit score requirements are lower as well.

Freddie Mac offers a similar program with its Home Possible mortgage. Low- to moderate-income borrowers in this program can make down payments as little as 3%, and the program allows non-occupant co-borrowers to help the primary buyers qualify for the loan. Down payment assistance from family, employer assistance, secondary financing and sweat equity are allowed in the program, which is not the case for traditional loans.

Fannie Mae and Freddie Mac offer consumer education programs for potential homebuyers. Fannie Mae has partnered with Framework, a leading provider of online homebuyer education, to teach consumers about all the steps of the home-buying process.

Freddie Mac offers a credit education course called CreditSmart. It aims to meet consumers’ diverse homeownership needs and show the way to successful homeownership.


Fannie Mae and Freddie Mac Requirements

Fannie Mae and Freddie Mac have similar qualification requirements, which include:

  • Debt-to-income (DTI) ratio as high as 43% or 50% in some cases
  • Credit score of at least 640 or 620 in some cases
  • Down payment as low as 3%
  • No recent major derogatory credit factors, such as foreclosure, short sale, bankruptcy or repossession
  • Borrower income can be verified through three years of tax returns and W-2 forms, though exceptions may be permitted
  • Loan limit for one-unit properties is $510,400 as of 2020, $765,600 in Alaska, Hawaii, Guam, and the U.S. Virgin Islands

While some of these requirements may seem like complex mortgage terminology, it’s simpler to understand with the right context. For example, to calculate the debt-to-income ratio, divide your total monthly debt payments by your total monthly income. Here’s an example: If your total monthly debt payments add up to $3,000, and you have a monthly income of $9,000, your debt-to-income ratio would be 33%.


Fannie Mae and Freddie Mac During the 2008 Housing Crisis

While there were several causes of the economic recession of 2008, some experts blamed Fannie Mae and Freddie Mac for the housing crisis. These organizations started to move away from only buying conventional loans and also began dealing in “subprime” loans.

Subprime loans are loans that come with a higher risk because borrowers don’t adhere to the same stringent qualifications. Some of these loans were based on negative amortization, which means that homeowners only paid interest on the loans and thus never obtained home equity. When the financial crisis hit, many of these borrowers defaulted on their loans, thus causing the crash.

As a result, Fannie Mae and Freddie Mac were placed in federal conservatorship. Conservatorship happens when a person or entity is appointed to gain oversight and control of a company to bring it into a stable and solvent condition. Fannie Mae and Freddie Mac remain in federal conservatorship to this day.

During the financial crisis of 2008, the U.S. government spent $187.5 billion bailing out Fannie Mae and Freddie Mac. The money has since been repaid to U.S. taxpayers and the U.S. Treasury, and both organizations are once again profitable. There has been recent talk of taking them out of conservatorship and having them held once again as private entities.


Fannie Mae and Freddie Mac Lending in 2020

The Federal Housing Finance Agency (FHFA) has raised the conforming loan limits for Fannie Mae and Freddie Mac to more $510,400 for 2020, up from $484,350 in 2019.

Freddie Mac and Fannie Mae have paid back all of the bailout money they received, became profitable again in 2012, and in 2018, Fannie Mae reported a net income of $16 billion, while Freddie Mac reported a net income of $9.2 billion. The FHFA director is preparing for Fannie Mae and Freddie Mac to exit conservatorship no later than 2024.


Key Facts About Fannie Mae and Freddie Mac

Key Facts About Fannie Mae and Freddie Mac

Fannie Mae and Freddie Mac serve similar purposes for American homeowners and the U.S. economy as a whole. These two agencies are important for homeowners as their requirements are often used to set regulations on lending practices. Understanding key points about these agencies can provide insight into the role of Fannie Mae and Freddie Mac:

  • Fannie Mae and Freddie Mac were created by the U.S. Congress and are currently in government conservatorship. They provide affordability and stability to the mortgage market.
  • The loan guidelines required by Fannie Mae and Freddie Mac can impact your loan terms, including the amount you can borrow, your required down payment, and the credit score you need to qualify for a loan.
  • Fannie Mae and Freddie Mac education programs on home buying are designed to help more people become homeowners.
  • While Fannie Mae and Freddie Mac struggled to survive during the housing crisis of 2008 and received bailout money, they were able to recover and become profitable once again in 2012. They will likely be released from conservatorship by 2024, if not sooner.
Lucy Lazarony is a freelance personal finance journalist living in South Florida. Her articles have appeared in Motley Fool, Forbes and MSN Money. Prior to freelancing, she worked as a staff writer at Bankrate.com for seven years.

Sources:

Fannie Mae. “About Fannie Mae”. Accessed February 12, 2020

Fannie Mae. “Fannie Mae Reports Net Income of $16.0 Billion and Comprehensive Income of $15.6 Billion for 2018.” Accessed February 13, 2020

FHFA. “Fannie Mae and Freddie Mac.” Accessed February 14, 2020

Freddie Mac. Freddie Mac Reports Full-Year 2018 Net Income of $9.2 Billion and Comprehensive Income of $8.6 Billion. Accessed February 14, 2020

Freddie Mac. “Mortgage and Borrower Eligibility Requirements.” Accessed February 14, 2020