There is a term in the mortgage industry called “portfolio lending” and it’s a specific type of home loan program that caters to a particular situation. Portfolio lending is so important that without it the real estate industry would suffer. What is a portfolio loan? It’s a loan that does not fit into any secondary market category and therefore not saleable in the secondary market. Most residential mortgage loans are sold in this market and without it, lending would soon dry up. How?
Decades ago, mortgage loans were literally withdrawn from a bank’s vault and loaned to a home buyer. The buyers would sign a promissory note to the bank and the bank would attach a lien on the property to ensure repayment. At some point though, the bank could run out of money to lend. If you recall the movie It’s a Wonderful Life, you remember that scene where there was a bank run at the Bailey Brothers Savings and Loan? Customers demanded all the money in their savings account but because the bank used the funds to help others buy a home, there wasn’t enough available cash to cover all the requests. Today, due to required reserve requirements, a bank run like this won’t happen.
Now let’s return to the secondary markets. As long as a mortgage lender approves a loan using pre-specified approval guidelines, the loan can be sold. Selling the loan replenishes the lender’s credit line allowing it to continue to be a mortgage lender. But with a portfolio loan, there is no such secondary market. It’s called a portfolio loan because the lender keeps the loan internally, in its portfolio. Portfolio loans will typically have slightly higher rates compared to traditional mortgages and many times will be for a shorter term, such as three, five or seven years.
A portfolio loan can provide mortgage financing to an otherwise eligible borrower that for some reason can’t quite fit all the requirements for a conventional mortgage. For instance, an individual has been working as a carpenter for several years but last year decided to start his own carpentry business. The carpenter has excellent skills and lots of happy homeowners but cannot get approved for a conventional mortgage because conventional mortgages ask for a two-year history of self-employment. If the carpenter only has one year being self-employed, he has not met the two-year minimum. But a portfolio loan may.
In this example, a portfolio loan might approve someone that has only been self-employed for one year, not two. There may be some other requirements such as a higher credit score, more down payment and cash reserves. With a portfolio loan, the carpenter can buy his house with just one year of self-employment with a goal of reaching the two-year milestone and refinancing out of a portfolio loan into a traditional mortgage down the road. I think you can see where a portfolio loan fits in the housing industry and helps support the real estate industry overall.
Not every mortgage company offers portfolio loans. As a mortgage broker, I have access to not only traditional mortgages such as those using Fannie Mae or Freddie Mac guidelines as well as government-backed mortgages underwritten to VA, FHA and USDA guidelines. But I also have access to several portfolio products that can approve a perfectly good file that for whatever reason can’t be approved as a traditional mortgage.
Portfolio loans can be both a short term as well as a long term solution. Portfolio loans can be offered as both fixed rate and adjustable rate mortgages. Unfortunately, when someone gets turned down for a traditional loan that person may not know about the portfolio landscape. A portfolio loan can approve someone that might otherwise have to wait to buy with competitive rates and terms.