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

Something that many consumers may not be aware of is that lenders typically carry the very same loan programs. In the mortgage market, lenders dont 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.nbsp;

Lets 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 lenders profit comes from the interest paid each month. But until one of the homes they financed sells to someone else and retires that note, theyre no longer lenders. If you dont lend money youre not a lender, right?

Thats 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 lenders credit lines allowing more home loans to be made.nbsp;

Today, its 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 theyre issued. In fact, most lenders sell loans before theyre even made. Its committing to Fannie or Freddie the lender will sell a certain amount of home loans.

Okay, so thats 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 wont 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. Thats the very reason why one lender can approve a home loan application while another wonton the very same program.nbsp;

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 didnt get an approval, its quite possible another lender will go ahead and approve that very same loan.