Why One Lender Will Approve a Loan While Another Will Not…On the Same Loan Program

Written by Posted On Monday, 05 April 2021 00:00

Something that many consumers may not be aware of is that lenders typically carry the very same loan programs. In the mortgage market, lenders don’t open up their vaults to finance a new home loan. That old process vanished years ago. When lenders did use their own funds, they would soon get to the point where they ran out of money to lend. Think about that for a moment and it makes complete sense. 

Let’s say a bank had $1,000,000 specifically to issue home loans. Soon thereafter, they funded 10 home loans at $100,000 each. The vault is now empty. There’ no more money to lend. The lender’s profit comes from the interest paid each month. But until one of the homes they financed sells to someone else and retires that note, they’re no longer lenders. If you don’t lend money you’re not a lender, right?

That’s when the concept of the secondary market came into play. Fannie Mae and Freddie Mac were formed to provide an answer to the problem of liquidity, to allow lenders to make home loans over and over again. Fannie and Freddie both came up with standard guidelines that mortgage companies and banks could follow. When approving a mortgage loan that met these pre-established standards, the lenders could sell those loans directly to either Fannie or Freddie. That essentially frees up the lender’s credit lines allowing more home loans to be made. 

Today, it’s rare that a mortgage company issues a home loan with the intent of keeping it. There are lenders who do just that, called ‘portfolio’ lenders, who cater to a specific market niche. But the vast majority of loans are sold soon after they’re issued. In fact, most lenders sell loans before they’re even made. It’s committing to Fannie or Freddie the lender will sell a certain amount of home loans.

Okay, so that’s a brief overview of the mortgage markets, referred to by lenders as the ‘secondary’ market because a loan is issued initially to buy the home but then sells that loan again to another buyer, the ‘second’ buyer. Remember, lenders carry the same suite of mortgage programs. So how can one lender approve a loan when another won’t using the very same program? The answer lies in ‘overlays.’

An overlay is an additional approval guideline lenders apply on top of the standard guidelines issued by Fannie, Freddie and even government-backed home loans such as VA or FHA mortgages. Lenders can add overlays to existing guidelines in order to cater to a niche market or to strengthen the quality of loans they issue. That’s the very reason why one lender can approve a home loan application while another won’t…on the very same program. 

For instance, Fannie might require a minimum credit score of say 620 on a particular program but another will need a score of 640. Same program, different results. This means that if someone applied for a home loan and didn’t get an approval, it’s quite possible another lender will go ahead and approve that very same loan.

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David Reed

David Reed (Austin, TX) is the author of Mortgages 101, Mortgage Confidential, Your Successful Career as a Mortgage Broker , The Real Estate Investor's Guide to Financing, Your Guide to VA Loans and Decoding the New Mortgage Market. As a Senior Loan Officer and Mortgage Executive he closed more than 2,000 mortgage loans over the course of more than 20 years in commercial and residential mortgage lending. 

He has appeared on CNN, CNBC, Fox Business, Fox and Friends and the Today In New York show. His advice has appeared in the New York Times, Parade Magazine, Washington Post and Kiplinger's as well as in newspapers and magazines throughout the country. 

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