Portfolio loan: What is it and how does it work?

A portfolio loan is a helpful tool for financing a home purchase if you’re having trouble securing a conventional mortgage loan, a Department of Veterans Affairs (VA) loan or a Federal Housing Administration (FHA) loan.

Understanding how portfolio loans work can help you become a home buyer or grow your real estate investment holdings. Learn how portfolio lenders and their unique mortgage offerings can help you finance your future home purchase.

What is a portfolio loan?

A portfolio loan is a type of mortgage a lender issues and maintains as part of their investment holdings. Unlike traditional mortgages sold to investors on the secondary mortgage market, portfolio lenders originate and keep portfolio loans in-house. Because the loans are held and serviced by the lenders, it gives them more flexibility when setting mortgage terms – often in the borrower’s favor.

Portfolio lenders can’t sell their loans on the secondary market because they don’t use the same eligibility criteria traditional lenders use to qualify borrowers for a conventional, FHA or VA loan. Because portfolio loans aren’t restricted to traditional lending guidelines, prospective home buyers with nontraditional incomes or credit histories can get the money they need to achieve their dream of homeownership.

How are portfolio loans different from traditional mortgages?

Under most traditional mortgage loan scenarios, banks and credit unions underwrite loans using specific criteria set by the government. These typically include a minimum credit score, a maximum debt-to-income ratio (DTI), a required down payment and limits on the loan size depending on the loan type. Portfolio loans don’t have to meet the lending standards set by government-sponsored entities (GSEs) like Fannie Mae and Freddie Mac.

Portfolio loans can help prospective home buyers struggling to qualify for a traditional mortgage loan get the chance to buy a home. Consider a portfolio loan if you can’t meet a traditional lender’s underwriting criteria. You won't need to meet conforming loan limits, required down payment amounts or pay private mortgage insurance.

What is a portfolio lender?

A portfolio lender is a mortgage lender that underwrites non-conforming loans, services them in-house and keeps them on their investment portfolio – which is why they’re known as portfolio loans. Portfolio mortgage lenders tend to be smaller financial institutions, such as local banks or credit unions.

Traditional mortgage lenders usually don’t keep home loans in their portfolio of financial assets. They typically sell most of the mortgages they originate to Fannie Mae and Freddie Mac to free up cash to issue more loans and minimize the risk of loan defaults. And to sell a loan on the secondary mortgage market, it must meet conforming loan requirements.

How do portfolio loans work?

In exchange for more relaxed loan approval requirements, portfolio loans typically come at the cost of higher interest rates and origination fees. Portfolio loans may offer less flexibility and charge prepayment penalties. Because the lender takes on more risk with flexible credit and underwriting criteria, they’ll often charge a higher interest rate.

Home buyers taking out a portfolio loan may experience a faster approval process, less demanding upfront requirements and enhanced customer service from their portfolio lender.

Who might benefit from a portfolio loan?

If a low credit score, poor credit history or self-employment is standing between you and a mortgage, a portfolio loan may be the right choice for you. The loan also applies if you have a high debt-to-income ratio (DTI), need a loan for a property that needs serious renovations or if a purchase price exceeds maximum loan limits.

Before applying for a portfolio loan, consider speaking with an accounting or finance professional or a mortgage broker to help decide whether a portfolio loan makes sense.

Pros and cons of portfolio loans

Portfolio loans have benefits and drawbacks. Let’s break them down.

Portfolio loan pros

• They’re easier to qualify for than standard mortgage loans. Portfolio loans typically have less stringent requirements for credit score, credit history and DTI ratio, making it easier for some borrowers to qualify for a loan.
• They can provide faster access to funds and higher borrowing limits. There are no loan limits with portfolio loans, and they can be a valuable option to get the funds you need fast.
• It creates a stronger relationship between borrowers and lenders. Since your lender services your loan, you’ll likely receive personalized service.

Portfolio loan cons

• Portfolio loans can have higher fees. Lenders can charge higher fees because they’re taking a bigger risk lending to borrowers who earn nontraditional income or whose credit history disqualifies them for traditional mortgage loans.
• They can have higher interest rates. Lenders often charge higher interest rates to offset the additional risk they take by issuing a loan with more relaxed credit requirements.
• Prepayment penalties may apply. Your lender may include a prepayment penalty clause in your It’s a fee lenders can charge for paying off a loan early.

Who qualifies for a portfolio loan?

Portfolio loans are rare and often used as a “perk” lenders award to their best customers. You may be a good candidate to receive one if you’ve established a long-term relationship with the local bank or credit union. To improve your odds of getting a portfolio loan, reach out to local lenders you’ve worked with in the past and see if they’re open to it.

Don’t forget: loan terms will vary by institution. It pays to shop around and compare loan requirements, interest rates, origination fees and mortgage terms and conditions. While you may not need to meet FHA or VA loan lending guidelines to receive a portfolio loan, portfolio lenders expect you to meet their lending criteria.

How to choose a portfolio lender

Start by comparing portfolio lenders and the loan estimates they provide. It may even be worthwhile to check how their offers compare to traditional loan products. And consider each lender’s level of customer service. If you still have questions, speak with a qualified home finance or mortgage professional to determine which loan type is right for you.

The bottom line: Portfolio loans can unlock homeownership

Because they aren’t intended for resale and don’t have to follow the eligibility requirements of traditional mortgages, a portfolio loan may be a helpful tool for real estate financing. And in certain situations, they may be more attractive than traditional loan products.

However, portfolio loans typically have higher interest rates and fees than FHA loans, VA loans or conventional mortgages. Discover which loan option is best for you and start the mortgage approval process online today.