An FHA loan could make home buying easier

First-time home buyers and repeat home buyers can use the FHA program to purchase almost any type of residence, as long as they meet FHA loan requirements.

Those include a minimum credit score of 500 with 10 percent down, or 580 for loans with 3.5 percent down.

The property must also be your primary home — no vacation cabins or rentals. However, you can buy a multi-unit property, like a duplex, as long as you live in one of the units.

Verify your FHA loan eligibility. Start here (Nov 7th, 2021)

In this article (Skip to…)

About the FHA loan

First-time and repeat home buyers alike can use the FHA loan program to buy or refinance a home affordably.

The FHA program backs mortgages for single-family homes being used as a primary residence. But you could buy a condo or a multi-unit property, like a duplex or triplex, as long as you live in one of the units.

Since the federal government insures FHA loans, buyers with smaller down payments and lower credit scores can qualify for mortgages.

This can make home buying much more approachable for those with lower incomes, who might have trouble saving for a down payment and closing costs.

To qualify, you will need to meet FHA loan requirements. But, fortunately, these are much more lenient than many other loan programs.

FHA loan requirements

To get an FHA loan you’ll need to:

  • Put at least 3.5% down. Most FHA borrowers can qualify for the program’s minimum down payment of 3.5%, which would total $10,500 on a $300,000 home
  • Have a credit score of 580. This is a lower standard than most other types of home loans. You could get approved with a FICO score as low as 500 if you can make a 10% down payment
  • Meet your lender’s DTI limit. It’s possible to qualify with a debt-to-income ratio (DTI) as high as 50. But most lenders look for DTI in the 43% to 45% range
  • Use the home as your primary residence. These loans won’t work for investment properties or vacation homes
  • Meet FHA minimum property requirements. The FHA requires you buy a home that’s safe, sound, and secure. An FHA appraiser will check out the home you’d like to buy
  • Borrow within FHA loan limits: The 2021 mortgage limit for most areas is $356,362, but your loan amount could be larger if you live in a high-cost area
  • Pay upfront and annual mortgage insurance premiums: These fees keep the FHA program operating. On a 30-year mortgage, you’d pay an upfront mortgage insurance premium of 1.75% of your loan amount, along with 0.85% annually for the life of the loan. (If you put 10% down, annual mortgage insurance payments expire after 11 years)

At first glance, it may seem the FHA has more stringent regulations than other loan types. But other types of mortgages have their unique qualifying rules, too.

Verify your FHA loan eligibility. Start here (Nov 7th, 2021)

6 FHA mortgage facts you might not know

Knowing the facts about FHA loans can help you find out whether this is the type of mortgage you need.

Here are some lesser-known facts that could help you better understand the program.

Fact 1: The FHA is not a mortgage lender

The FHA is not a mortgage lender. It’s a mortgage insurer.

The acronym “FHA” stands for Federal Housing Administration, a government agency within the U.S. Department of Housing and Urban Development (HUD).

The FHA doesn’t make mortgage loans to home buyers or refinancing households. Rather, the FHA provides mortgage insurance to banks, credit unions, and other lenders which make loans meeting the FHA requirements listed above.

The FHA would reimburse lenders for part of their losses if your loan went into foreclosure or the short-sale process.

It’s this FHA insurance that helps lenders extend credit even when you have a lower credit score and a smaller down payment.

Fact 2: FHA loans aren’t just for first-time home buyers

FHA loans are not for first-time buyers only. First-time and repeat buyers can finance houses with FHA mortgages.

The FHA loan is often marketed as a product for “first-time buyers” because of its low down payment requirements.

But not all repeat homebuyers have excellent credit or lots of money saved for a down payment on a home. The FHA home loan program is open to them, too.

You couldn’t use this type of mortgage for a second home, investment property, or commercial real estate — only home purchase loans for primary residences.

The FHA will insure mortgages for any primary residence. There is no requirement that you must be a first-time buyer to use the FHA loan program.

Fact 3: FHA loans don’t have income or geographic limits

Other low-down-payment mortgage programs have eligibility requirements. Many are limited to those with low, very low, or moderate income. Or they are available to only certain groups.

The VA loan, for example, allows 100% financing. But you must be an eligible military borrower to use it.

The USDA Rural Development loan also allows 100% financing, but the program requires you to buy in a designated rural area and imposes income limits, too.

By comparison, anyone can apply for an FHA loan. They aren’t just for certain groups, income levels, or ZIP codes.

For most buyers, FHA mortgages require a 3.5% down payment. This makes the FHA mortgage one of the most lenient mortgage types available nationwide.

Your down payment money could be a gift from a family member, employer, charitable organization, or government homebuyer program.

Fact 4: FHA loans allow lower credit scores

FHA loans feature some of the most flexible and forgiving credit standards of any available loan type. With an FHA-backed loan, you don’t need perfect credit.

In fact, the FHA expressly instructs lenders to consider a borrower’s complete credit history —  not just isolated instances of bad financial luck or an occasional late payment.

FHA interest rates are often lower than those of conventional loans for people in the same “credit bucket.” That’s because FHA does not add risk-based surcharges for things like lower credit scores, higher loan-to-value ratios (LTV), or condos and manufactured homes.

This doesn’t mean you’re guaranteed to qualify. But borrowers with a “banged-up” history have a much better chance of getting loan approval via the FHA than other loan options.

Even if you’ve been turned down for other types of credit, such as an auto loan, credit card, or other home loan program, an FHA-backed loan may open the door to homeownership for you.

Verify your FHA loan eligibility. Start here (Nov 7th, 2021)

Fact 5: FHA loans aren’t expensive

FHA loans can be more expensive, or less expensive, than other loan types. The long-term cost of an FHA loan depends on your loan size, your down payment, and your location.

The biggest cost of an FHA home loan is usually not its mortgage rate. In fact, FHA loans often have lower interest rates than comparable conventional mortgage rates via Fannie Mae and Freddie Mac.

The biggest cost is the FHA mortgage insurance.

FHA mortgage insurance premiums (MIP) are payments made to the FHA to insure your loan against default. MIP is how the FHA collects “dues” to keep its program available to U.S homeowners at no cost to taxpayers.

You pay MIP in two parts:

  • The first part is known as upfront MIP. You can pay this out-of-pocket as part of your closing costs, have a motivated home seller pay it for you, or wrap it into your new loan balance. It’s up to you
  • The second part comes due each year. It’s your annual MIP. Your lender will split this annual payment into 12 installments and add one to each of your monthly mortgage payments

Annual MIP can range as high as 1.10% for high-cost homes in areas such as Orange County, California; Potomac, Maryland; and New York City.

For most borrowers, MIP is between 0.45% and 0.85%, depending on your loan term (15- or 30-year) and the loan-to-value (putting less than 10% down, your MIP is higher).

Keep in mind that unlike conventional mortgages, FHA MIP does not expire once you have paid your loan down to 80 or 78 percent. It remains in force as long as you have your mortgage. If you put 10% or more down, FHA MIP expires after 11 years.

Fact 6: FHA lenders follow their own rules, too

All FHA loans are not the same. There are many “types” of FHA loans, and mortgage rates vary by lender.

The FHA sets minimum eligibility requirements for all the loans it insures. But each FHA lender can enforce its own rules. The FHA calls these lender-specific rules “investor overlays.”

For example, a lender could have higher credit score requirements than the FHA’s. Or, a lender could enforce stricter rules about previous foreclosures in your credit report.

It works the other way around, too.

For instance, one FHA lender could allow a higher DTI than another one. Or, one lender could let you use tax returns to show your income while another may insist on pay stubs to prove your employment history.

Because of these variations, when you’ve been turned down for an FHA mortgage by Lender A, you should always try to apply with Lender B which may approve your FHA loan request. Plus, mortgage rates can be very different from bank to bank.

In addition, the FHA offers special refinance loans, cash-out refinance loans, home construction loans, and other benefits to its applicants.

If you’ve been turned down for an FHA loan with your lender, consider applying somewhere else. Your loan may be approved once you re-apply.

FHA loan guidelines vs. conventional guidelines

FHA loans offer an alternative to conventional loans, which are also available nationwide without income or geographic restrictions.

“Conventional” means a mortgage that’s not backed by a government agency such as the FHA, USDA, or VA.

Since you wouldn’t have government insurance backing your conventional loan, you’d depend more on your own credit profile to qualify.

  Conventional Loan FHA Loan
Minimum Credit Score 620 580
Maximum DTI 36% is ideal; lenders can go higher 43% is typical; lenders can go higher
Minimum Down Payment 3% 3.5%
Annual Mortgage Insurance Required unless you put 20% or more down Required with any down payment
Upfront Mortgage Insurance Not required Required
Maximum Loan Size* $548,250 $356,362
Property Use Primary residences, vacation homes, rental homes Primary residence only

*High-cost areas offer higher loan limits for both FHA and conventional loans

As you can see, there are some similarities between FHA and conventional loan qualifying rules.

But remember, these are the minimum requirements for qualifying.

While you may be able to get a conventional loan with 3% down, a credit score of 620, and a DTI pushing 45%, lenders would likely charge higher interest rates compared to someone who has a stronger credit profile.

Borrowers who barely qualify for a conventional loan may be better candidates for an FHA loan, even with the FHA’s higher down payment and upfront mortgage insurance premium.

On the other hand, if your credit score is in the mid- to high-700s, you have enough money to put 10% or 20% down, and your DTI falls below 36%, you’ll likely save more with a conventional loan.

To find out for sure, you can experiment with a mortgage calculator or compare pre-approval offers.

FHA loan requirements FAQ

What is an FHA loan?

An FHA loan is a home purchase and refinance loan just like a conventional mortgage. The main difference? FHA loans feature mortgage insurance from the Federal Housing Administration. This insurance shields lenders from losses in case the borrower defaults. With help from this insurance, borrowers with lower credit scores and higher existing debt payments can still qualify for lower interest rates.

Is FHA only for first-time home buyers?

No. First-time homebuyers as well as repeat homebuyers can get FHA loans. However, FHA loans are for first homes and not vacation homes or investment properties. 

What are the qualifications for an FHA loan?

Qualifying for an FHA loan usually requires a credit score of at least 580, a 3.5 percent down payment, and a debt-to-income ratio of 43 percent or less. Individual lenders have some leeway with these requirements. So if you get turned down with one lender, you may be approved by another.

What will disqualify you from an FHA loan?

A home purchase price above the FHA’s loan limits for your area will disqualify your application. Buying an investment property or a vacation home will also exclude your loan. As for personal underwriting, a debt-to-income ratio (DTI) above 50 percent or a credit score below 500 would make getting approved almost impossible unless you added a co-borrower who has better borrowing credentials.

How hard is it to get an FHA loan?

FHA loans make credit qualifying easier since they can lower barriers to getting a mortgage approval. But finalizing any type of home loan requires persistence and patience. Loan officers have to check your income. Appraisers have to verify the value of the home. Attorneys have to search the title history of the property. After you’ve agreed on a purchase price and entered a contract to buy the home, it may take up to two months to close on the loan.

Can I get an FHA loan without 2 years of employment?

The FHA wants to see two years of employment history from loan applicants. But if you have gaps in your employment history, you can show a six-month work history plus a two-year work history prior to the gap. And if you’ve changed jobs, that’s OK. Your lender may ask you to write a letter explaining the reason for the job changes.

Why would a buyer choose an FHA loan?

Compared to conventional loans, FHA loans can offer competitive interest rate mortgages to homebuyers who have lower down payments and lower credit scores. In exchange for getting more relaxed credit qualifying, FHA borrowers pay upfront and annual mortgage insurance premiums. Often, the cost of this extra insurance can pay for itself through the interest savings an FHA loan can offer. Other times, homeowners may save more with a conventional loan.

Check your FHA loan eligibility

FHA mortgage rates are on par with market rates for many borrowers. And you don’t need a great credit score or high income to qualify.

Check with a few lenders to verify your FHA loan eligibility and find your lowest interest rate.

Verify your new rate (Nov 7th, 2021)

Source link