FHA Loan Overview
FHA home loans have been a valuable financing programs for over fifty years because the qualifications are reasonable and the pricing is affordable. FHA loans are a good fit for many first-time borrowers who have average or poor credit and limited money for a down payment. This type of loan only requires a 3.5% down payment and a 580-credit score. You may be able to qualify for an FHA loan even if you cannot qualify for a conventional mortgage. Note that the US government doesn’t issue these loans, but it does back them in case of default, which is why that you can often get a low rate when you choose an FHA home loan.
FHA loans are issued by private mortgage lenders, including brokers, credit unions, and banks. FHA loans can be used to buy a single-family home, condominiums, and multifamily homes with two to four units. But you need to live in the home to qualify for the loan. You also can pair the FHA loan with a 203k loan which allows you to renovate the property.
Why an FHA Loan vs. a Conventional Loan?
People with higher incomes and better credit often choose conventional loans because they can afford to put more money down and get the best interest rate. If you put down at least 20%, you also do not have to pay for mortgage insurance. More differences between FHA and conventional loans:
- Credit history: The big advantage of FHA home loans is you can get approved with a relatively low credit score, assuming your current payment history is steady. If you had past credit problems but are getting back on your feet and can pay your bills now, FHA loans could be for you. 580 is the minimum FHA loan credit score for 3.5% down, and 500 is the minimum for 10% down. If your score is in the 500s, you may need to shop more for a lender who will approve you.
- Mortgage insurance: All FHA loans require mortgage insurance, and you may need to pay it for the life of the loan. With a conventional loan, you don’t usually need mortgage insurance with 20% down.
- Gifts for the down payment: If you don’t have enough for a down payment, you can receive a gift from a family member for an FHA home loan. Some conventional loans have stricter rules in this regard.
- FHA appraisal: The home must be appraised by FHA if you get an FHA home loan, and it’s different from a conventional home inspection.
FHA Loan Requirements
As noted earlier, FHA lending rules are more flexible than some conventional loans, but you still need to qualify. The minimum for 3.5% down is 580 credit score and 500 for 10% down. But lenders are allowed to set higher standards for their businesses if they want. For example, one lender may require a 620 score and another a 580 score. Lenders also have flexibility to set their own fees and rates, so check with several lenders to see who offers the best deal.
Debt-to-income (DTI) ratio is also important for qualifying for an FHA loan. The DTI measures your debt payments each month compared to your gross. This includes your rent or mortgage expenses, as well as credit cards, student loans and auto loans. Generally, the lower your DTI, the better chances of being approved for your loan. DTI standards for FHA loans differ according to your FICO score and other factors, including how much money you have in savings.
If your credit score is between 500 and 579, FHA will probably want a DTI of under 43%. You might be able to get an FHA loan with a 50% DTI, but you will probably need to have money in the bank, and fewer lenders will qualify you.
Regarding down payment, the minimum for a 580 credit score is 3.5%. You need to put down 10% for a credit score below that. But not all of the money needs to come from your savings account. You can have a relative or friend gift you the money. All you need is a letter with their contact details that says what your relationship is and that the money is a gift.
The property you want to buy needs to be appraised by an appraiser approved by the agency to ensure it meets their minimum standards. The FHA appraisal is a separate process from a home inspection. FHA wants to make sure the home is worth enough for them to lend money on it, and they want to protect your interests, too.
You also may qualify for an FHA 203k renovation loan to fix it up. If you go that way, you will need an initial FHA inspection followed by a post-construction appraisal to estimate the value when it is finished.
FHA backs the loan, which allows people with lower credit scores and down payments to get into the home. But you need to pay FHA mortgage insurance, usually for the life of the loan. You will make an upfront mortgage insurance payment that may be rolled into the loan. Then, you make monthly insurance payments as part of your loan payment. If you paid less than 10% down, the insurance is for the life of the loan. If you paid 10% or more, you pay for insurance for the first 11 years.
FHA Refinance Loans
If you have a loan currently and want to move into an FHA loan, there are options available. You also can use one of these options if you have a current FHA loan:
- FHA rate and term refinance: If you have an FHA loan now and want to refinance for a lower rate, this one is for you. You also can use it to shorten the loan term.
- FHA streamline refinance: This is a faster way to refinance an FHA loan without any appraisals.
- FHA cash-out refinance: This will replace your current first mortgage and give you some of your equity in cash.
FHA home loans are an excellent option for those with lower down payments and credit score, so speak to your FHA mortgage lender today to apply!