What Do I Need to Know about FHA Loans - 2024
The Basics
FHA loans are excellent for borrowers with less-than-ideal qualifications.
This can include lower credit, lower income, derogatory events such as past foreclosure or borrowers wanting to spend the least amount to get into a home.
Let’s briefly cover the main points:
- Allows 3.5% down - So does conventional, don’t get that twisted.
- Rates are lower than conventional.
- Mortgage insurance is forced for eternity - Not the worst because of the lower interest rates.
- Appraisal is slightly more strict.
- Allows Shorter time frame from foreclosure and bankruptcy.
- Has more relaxed credit and income requirements.
Now that we know those things, should you choose an FHA loan?
First: What does less-than-ideal qualifications even mean?
Many times we (mortgage nerds🤓) use terms with vague and ambiguous definitions. This leaves room for all sorts of problems in interpreting and poor assumptions to be made.
Alternative Read: Things that can affect your mortgage pricing
As opposed to Conventional Loans which are risk based, meaning the more risky your profile and qualifications, the worse the pricing will be,
FHA loans are not risk based.
This means, for most situations, the pricing is the same for most people.
PLEASE BE AWARE there are many exceptions to the rule and many scenarios where with not ideal qualifications you might still want or need to choose a conventional loan as well as the opposite where you may have ideal qualifications and FHA might be a better fit. This is why it’s so important to speak with an experienced professional
The decision of which loan to choose is not straight forward. Some variables such as down payment or credit score have a drastic impact on pricing and it’s not linear. We use the term linear here to describe how it’s easy to see a pattern and make assumptions but in reality sometimes very small changes can have very large impacts both good and bad.
It’s important to be open minded when speaking with a loan officer. Why we recommend certain loans may not always make sense up front. And No, it has nothing to do with how much we make.
Here are a few common scenarios:
-
You want to put down a good chunk of money ( 10+% of the purchase price) and your credit is over 700.
A conventional loan is potentially a good fit since you’ll likely have lower mortgage insurance and your payment may be lower. Remember that FHA loans have lower interest rates but they have higher mortgage insurance. There is a tipping point where Conventional and FHA will be the same.
-
Your credit is below 700.
Even at 740, especially when you want to do minimum down of 3.5% FHA will likely be a clear winner. There are some situations where if you have excellent credit and you make less than 80% of the area median income where a Home Ready & Home possible ( a type of conventional loan ) might make sense but for the large majority, sub 700 is FHA all the way.
-
Your income is very tight in comparison to the mortgage.
When you need to eek out every dollar and max out your debt-to-income ratio FHA will allow for a higher ratio.
-
When you want to spend the least amount possible for down payment and closing costs.
Although conventional will allow you to do 3% down in some situations, you can likely get away with less dollars out of pocket on an FHA loan vs the equivalent payment on a conventional loan. This is because at the same rate as a conventional, the lender will have more room to provide you with a lender credit subsequently covering some of the closing costs.
Considering an FHA Loan?
We'll walk you through why FHA might be the right choice, along with a same day rate quote.
What are the down sides I should be aware of?
There really aren’t too many. The benefits mentioned at the beginning outweigh these down sides.
Mortgage insurance
There is forced mortgage insurance for the life of the loan as well as Up Front Mortgage Insurance (UFMIP) of 1.75% of the loan amount. This is standardized between all lenders. The UFMIP is the only cost allowed to be wrapped into the loan and is the reason why FHA can have relaxed requirements and lower interest rates. The annual mortgage insurance is standardized at .55% * loan amount for almost all situations.
| Loan Amount | Down Payment | Annual MIP Rate |
|---|---|---|
| ≤ $766,550 | < 5% | 0.55% |
| ≤ $766,550 | ≥ 5% | 0.50% |
| > $766,550 | < 5% | 0.75% |
| > $766,550 | ≥ 5% | 0.70% |
Example: A 300,000 dollar loan with minimum down.
- .0055 * 300,000 / 12 = $137.5 per month
The lower rate of an FHA loan will almost always offset this increased mortgage insurance cost
Appraisal Strictness
FHA loans will be more strict when it comes to the appraisal. This is only an issue if you are looking at houses needing repairs. FHA is more likely to force you to repair it prior to close and will be pickier than conventional.
If you are looking at houses in decent condition that are less than 20 years old you certainly shouldn’t worry about the appraisal.
Summary
In conclusion, FHA loans represent a valuable resource for individuals and families seeking to purchase a home, particularly those who may find themselves edged out of the conventional mortgage market due to credit challenges or limited down payment resources. With their more forgiving eligibility requirements, lower down payment thresholds, and government backing, FHA loans offer a pathway to homeownership that aligns with a broader range of financial situations. However, potential borrowers should carefully consider the implications of the required mortgage insurance premiums and property standards mandated by the FHA. Ultimately, by weighing the pros and cons and considering their long-term financial plans, individuals can make informed decisions about whether an FHA loan is the right choice for their homeownership goals.
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