Non-QM

Non-qualifying, or non-qualified, loans—also called non-QM loans—offer a more flexible form of mortgage financing. They come with looser credit and financial requirements and are usually good options for self-employed borrowers, some rental property investors, and others who don’t meet the strict standards of traditional mortgage loans.

What Is a Non-Qualifying Mortgage?

A non-QM mortgage is one that doesn’t adhere to the lending standards set out by the Dodd-Frank Act. These regulations were issued in 2014 to ensure borrowers have the ability to repay their loans and to prevent a repeat of the subprime mortgage crisis seen during the Great Recession.

“QM loans have a regulated formula to which mortgage providers must adhere, so if a borrower doesn’t check every box, they won’t qualify for a conventional mortgage or a government-insured or -guaranteed mortgage,” Joseph Watts, senior vice president of residential lending at North American Savings Bank (NASB), told The Balance in an email. “Non-QM lenders, however, will consider factors beyond that checklist and view the borrower’s application from a more holistic perspective."

Why Seek a Non-Qualifying Mortgage?

Non-qualified mortgages are best for borrowers who can’t meet the requirements of traditional mortgage loan, such as a 43% debt-to-income (DTI) ratio or a certain credit score minimum.

Freelancers and other types of self-employed borrowers often use these loans because they allow income to be verified in more creative ways, rather than only through W-2s and tax returns.

Here’s who might benefit from using a non-QM loan:

○ Self-employed professionals, freelancers, and gig workers

○ Low-credit borrowers

○ Borrowers with high DTI ratios

○ Borrowers with nontraditional income, including people living on investment proceeds

The major advantage of non-QM loans is that they open the door to borrowers who may not otherwise qualify for a mortgage. As Watts of NASB put it, “They provide much-needed mortgage funding for the millions of hardworking but underserved Americans—like small-business owners and self-employed individuals—who’ve worked hard to achieve success but can’t qualify for a conventional conforming or government-insured or -guaranteed mortgage.”

These also may require less formal documentation than other loans. Non-QM lenders typically won’t require things like W-2s, tax returns, or an employment verification letter on these mortgages. (Though technically, they will require additional forms of income verification to “complete the financial picture of the borrower,” Watts explained.) They also come with more flexible terms, including balloon payment options and 40-year loans, which aren’t available on most qualified mortgages.

On the downside, non-QM loans come with higher interest rates and, often, lots of costly upfront fees. They’re also not as readily available.

Pros

○ Lower credit scores allowed
○ Higher DTIs allowed
○ Allow nonsalaried and other unconventional workers to buy or refinance a home
○ Flexible terms, including interest-only options
○ More forms of documentation accepted

Cons

○ Higher interest rates
○ Not readily available
○ Often come with high costs and fees

Non-qualifying mortgages can be a good option for self-employed borrowers, property investors, or others with nontraditional incomes or less than perfect credit scores. Still, they’re not without drawbacks. They often come with high upfront costs, as well as steeper interest rates—and that means more in long-term expense over time.