Subprime Lending

A subprime loan is one offered to people who have problems with their credit. The loan's interest rate is higher than the prevailing rate available to those with exemplary credit histories. The higher rate is imposed because of the additional risks involved in lending to someone with poor credit or without a financial track record.

Subprime loans are sometimes a legitimate way to help people with poor or no credit to become homeowners. In these cases, subprime loans can be the best way to get capital where it is needed most. Financial experts widely regard subprime lending as a powerful economic development tool that also helps families rebuild their credit ratings or establish a credit history.

Taking a leadership role in the industry to ensure responsible subprime lending, Freddie Mac recently announced higher underwriting standards for the subprime loans we purchase. For example, we will invest only in subprime adjustable-rate mortgages (ARMs) – and mortgage-related securities backed by these subprime loans – that qualify borrowers at the fully-indexed and fully-amortizing rate. We will limit the use of low-documentation underwriting for these types of mortgages to help ensure that future borrowers have the income necessary to afford their homes and strongly recommend that mortgage lenders collect escrow accounts for borrowers' taxes and insurance payments. These new investment requirements will affect mortgages originated on or after September 1, 2007, to avoid market disruptions.

In addition, Freddie Mac is developing fixed-rate and hybrid ARM products that will provide lenders with more choices to offer subprime borrowers. Freddie Mac's new hybrid ARMs will offer reduced adjustable rate margins; longer fixed-rate terms; and longer reset periods. We will require originators to underwrite these products at the fully indexed and amortizing rate, and plan to commit significant capital to purchasing these loans into our retained portfolio.

Freddie Mac supports responsible subprime lending. However, forcing people into a subprime loan when they have the credit history to merit a better interest rate is a kind of predatory lending. Find out more about predatory lending and how Freddie Mac helps prevent it.