Everything You Need to Know About Freddie Mac and Fannie Mae

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If you're applying for a mortgage loan, you've undoubtedly heard the names Fannie Mae (Federal National Mortgage Association or FNMA) and Freddie Mac (Federal Home Loan Mortgage Corporation or FHLMC). But if you're like most consumers, you have little idea of what Fannie and Freddie actually are, and more importantly, what they do.

Both Fannie and Freddie have the same purpose: They buy mortgages from banks, mortgage companies, and savings and loans in order to free up more of their capital for mortgages. These lenders use the extra cash gained by selling their loans to Fannie and Freddie to lend more mortgage dollars to future homebuyers. (See also: Everything a First-Time Home Buyer Needs to Buy a House)

In other words, the purpose of Fannie Mae and Freddie Mac is to ensure that there is mortgage money in the system when you're ready to take out a mortgage loan.

The History of GSEs

You might think of Freddie Mac and Fannie Mae as lenders. That's incorrect. They are officially known as government-sponsored enterprises, or GSEs. And they are the only two GSEs in the country.

As a GSE, both Freddie and Fannie are privately owned. But they do receive financial support from the federal government. In return for that support, Fannie and Freddie have agreed to purchase a specific number of loans made by private lenders to low- or moderate-income borrowers. Lenders face a higher risk that such borrowers will default on these loans, and they might not be willing to make as many of them if the two GSEs didn't agree to purchase a percentage of them.

It's impossible to know how many of these loans to low- or moderate-income borrowers lenders would make without the promise of these future purchases by the GSEs. But the federal government believes that without the efforts of Freddie and Fannie, the number of these loans would drop.

Freddie and Fannie provide what is known as a secondary market for mortgage lenders. They purchase mortgages from lenders, hold some of them in their own portfolios, and sell some as securities that they guarantee. Freddie Mac and Fannie Mae only purchase conforming mortgages that are not guaranteed by a government agency, such as the Department of Veterans Affairs and the Federal Housing Administration.

Because they receive support from the federal government, the securities that Fannie and Freddie sell are considered especially safe investments. In fact, investors consider the securities sold by the two GSEs to be almost as safe as securities issued by the federal government itself.

How Do the GSEs Help You?

You won't deal directly with either Freddie Mae or Freddie Mac when you are applying for a mortgage loan. You'll work instead with a private bank or lender. But the presence of the two GSEs does make a difference for you: Mortgage experts estimate that the mortgage interest rates borrowers pay average about a quarter-percent lower than they would be if Freddie and Fannie didn't exist.

That quarter-percent drop in your interest rate means that you'll pay less each month for your mortgage payment, and that you'll pay less in interest if you keep your loan for its entire term.

You also have a better chance of qualifying for a mortgage loan today if you are a low- or moderate-income borrower, thanks to the commitment by the GSEs to buy a certain number of loans made to such borrowers.

This doesn't mean that everyone loves the GSEs. Far from it. The federal government bailed out Fannie Mae and Freddie Mac in September of 2008 after the housing crisis sent both GSEs into an economic spiral. As part of this bailout, the U.S. Treasury Department was given permission to purchase up to $100 billion in Fannie Mae and Freddie Mac preferred stock and mortgage-backed securities.

Because of this, the federal government's Federal Housing Finance Agency put both GSEs into conservatorship. This bailout cost U.S. taxpayers $187 billion. However, in 2012 the U.S. Treasury made a decision to put all profits from Freddie and Fannie back into the general fund. Because of this decision, the bailout has since been repaid, and with interest.