Insured by the Federal Housing Administration, FHA home loans are government-assisted alternatives to conventional financing, and were originally offered by FHA lenders to first-time home buyers with imperfect credit. Now, FHA loans are open to a wider audience and are even popular options for homeowners looking to refinance, including an FHA streamline refinance and an FHA cash out refinance.
What is an FHA loan?
Congress established FHA loans in 1934 in order to expand homeownership opportunities and help lower income borrowers obtain a mortgage. FHA mortgages are government-backed mortgages insured by the Federal Housing Administration.
FHA loans make it easier for aspiring homeowners to achieve homeownership without the need for a large down payment. This flexible and more attainable loan program is a popular choice for first-time homebuyers, by enabling borrowers to make down payments of as little as 3.5 percent.
This type of loan not only allows for a smaller down payment but less stringent credit score requirements, thus making it ideal for borrowers with little cash saved up and those who have less-than-ideal credit and cannot qualify for a conventional loan.
It’s important to remember that the Federal Housing Administration does not actually lend funds for these mortgages. Instead, borrowers get a loan from an FHA-approved lender and the FHA only guarantees that loan.
What are the property requirements for FHA loans?
In order to use an FHA loan to buy a house, the property must meet the Department of Housing and Urban Development’s minimum property criteria. FHA loans are available for many different types of FHA-approved properties:
1-4 unit residential homes
Townhouses and condominiums
Mobile, manufactured and/or modular homes
Need help determining if your property qualifies for an FHA loan? Our loan officers offer no-obligation mortgage consultations and quotes.
Who meets FHA loan requirements?
To qualify for an FHA loan and FHA Streamline refinance borrowers need to:
Be a U.S. citizen with a valid social security number
Have a steady employment history that demonstrates adequate income
Use the loan to purchase, build or refinance a primary residence
Ensure total debt does not exceed 43 percent of your income
Additional criteria include:
Currently having an FHA loan and good payment history for an FHA refinance
Showing a benefit for the refinance such as a rate reduction or lower term
What are the benefits of FHA loans?
EASIER TO QUALIFY
Because of their low credit and down payment requirements, FHA loans are typically much easier to qualify for than conventional loans and make the most popular type of first-time homebuyer loan used to purchase a home. Borrowers need a minimum FICO score of 580 to qualify for a 3.5 percent down payment. If your FICO score is between 500 and 579, a 10 percent down payment is required. There also are no maximum income limits, but you must meet a debt-to-income ratio limit of no greater than 43 percent and demonstrate adequate income to repay the loan principal.
LOWER DOWN PAYMENT REQUIREMENTS
An FHA loan is typically one of the easiest types of home loans to qualify for because it allows a low down payment and less-than-perfect credit. An FHA mortgage has a maximum loan-to-value ratio of 96.5 percent, meaning you only need a 3.5 percent down payment. Borrowers who are unable to save up 20 percent for a down payment or have a lower credit score should consider whether an FHA loan could serve their goals.
COMPETITIVE FHA MORTGAGE RATES
Unlike conventional home loans, FHA loans are government-backed, which protects lenders against defaults, making it possible for them to offer prospective borrowers more competitive interest rates on traditionally more risky loans.
NO APPRAISAL REFINANCE
The FHA does not require an appraisal on a streamline refinance, which is important because it means borrowers with little or no equity may be able to refinance.
STATE AND LOCAL PROGRAMS CAN LOWER FHA COSTS
There are more than 2,000 homeownership assistance programs that work in tandem with FHA loans to provide additional assistance with down payments and other costs. Most of these programs have income limits.
FHA LOANS ARE ASSUMABLE
FHA home loans are assumable, which means that if the borrower decides to sell the house, the new buyer can take on the loan in their place. Such a feature can also be very useful, for instance, if they need a co-signer in order to buy a house but later want to assume full responsibility for the loan when they get sufficient funds.
Summary of FHA loan advantages:
FICOs scores as low as 500 to be eligible for financing
Down payment as low as 3.5 percent
Down payment can be a gift
Down payment assistance programs available
Competitive interest rates and higher debt-to-income ratios accepted
Adjustable and fixed-rate loans available
What are the disadvantages of FHA loans?
MORTGAGE INSURANCE PREMIUM (MIP)
The Federal Housing Administration requires all FHA mortgages to have MIP regardless of how much money the borrower puts down for the down payment. FHA MIP is an insurance policy for the mortgage loan in case the borrower ever defaults. This is one of the primary drawbacks of using the FHA program, as it inflates the monthly payments. The duration of the annual MIP will depend on the amortization term and LTV ratio of the loan origination date but current rule require FHA borrowers who put down less than 10 percent to pay MIP for the life of the loan.
LIMITED LOAN AMOUNT
The Federal Housing Authority sets maximum mortgage limits for FHA loans that vary by state and county. Current FHA loan limits vary by location, based on home prices. The limit in low-cost counties is $314,827 and rises to $726,525 in the most expensive counties. These limits typically change annually so make sure to can find the most recent FHA loan limits by county on the HUD website.
What is the difference between an FHA loan and a conventional loan?
A conventional mortgage loan is originated in the private sector and is not insured by the government. This means that, unlike federally insured loans, conventional loans carry no guarantees for the lender if the borrower fails to repay the loan.
An FHA loan product is also originated in the private sector, however, it is insured by the government through the Federal Housing Administration. This insurance is designed to protect the lender, not the borrower. It means if the borrower defaults on the loan and their house isn't worth enough to fully repay the debt through a foreclosure sale, the FHA will compensate the lender for the loss.
That security of the FHA comes at the cost of the borrower. With FHA loans, the buyer must pay a percentage of upfront mortgage insurance premium at closing, regardless of the down payment. Then, the buyer must make monthly mortgage insurance payments for the life of the FHA loan if the down payment is less than 10 percent.
Another important difference to note (as compared to conventional loans) is that FHA loans generally have smaller down-payment requirements and more flexible underwriting standards. As a result, an FHA loan may help individuals with less-than-perfect credit and less cash on hand qualify for a mortgage or refinance. However, it’s important to note that while the FHA may less strict qualifying standards, individual banks and lenders will always set their own FHA underwriting guidelines on top of those, known as lender overlays.
Minimum FICO credit score
Typically no lower than 620
Typically as low as 580
Minimum down payment
As low as 3 percent, but 5 to 20 percent is typical
As low as 3.5 percent
Monthly payments are required if you have a down payment of less than 20 percent, but generally, the insurance can be canceled when your loan-to-value ratio reaches 80 percent.
Upfront and monthly payments, sometimes for the duration of the mortgage term, are required.
Other uses for FHA loans
Purchasing a home is just one way to utilize an FHA loan. Borrowers can also use FHA loans in the following ways:
If you're eligible for an FHA loan, this type of home mortgage should definitely be on your short list of loans to consider. That's because the FHA loan can offer some of the most competitive mortgage around of just about any home loan available today.