FHA Loans Can Help Make Home Ownership More Attainable

Most of us dream of owning our own homes, but for some of us, this goal can seem out of reach. Luckily, there are many forms of assistance available to help borrowers overcome the barriers to home ownership. One of the most popular ways is through a government-backed loan like an FHA loan.

Guaranteed by the U.S. Federal Housing Administration, FHA loans can be a good fit for buyers who might find it difficult to get approved for a conventional home loan. Because FHA loans are backed by the government, lenders issuing them are protected in the event that the borrower defaults on the mortgage. In other words, if the borrower fails to pay back the loan, the government will repay the lender. Because the lender is protected, they’re able to offer these loans to “more risky” borrowers, such as borrowers with a less established credit history, or borrowers without a substantial down payment.

Because of its more lenient qualification requirements compared to conventional mortgages, the FHA loan program is often appealing to first-time home buyers. A lot of first-time buyers may not have a lot of down payment money saved up, they might be struggling to pay down a significant amount of student loan debt, or they might just be starting to establish a credit history. For these types of borrowers, an FHA loan could be a great option.

Let’s take a closer look at some of the distinct advantages FHA loans can have over conventional mortgages:

• Lower down payment requirement. With an FHA loan, borrowers can make a down payment as low as 3.5% of the home’s purchase price. This down payment requirement is lower than that of most conventional mortgages, which can sometimes require homeowners to put down as much as 20% of the purchase price. There are cases where a borrower can put down as little as 3% on a conventional loan, however the borrower will usually have to meet certain requirements to do so, such as having a credit score of at least 620, and a debt-to-income ratio that doesn’t exceed 41%. With an FHA loan you can usually put down 3.5% even with a credit score as low as 580.

• Easier to use gift money for your down payment. With a conventional mortgage, if you’re looking to use gifted money for your entire down payment, you’ll typically need to put down at least 20% of the purchase price. If you put down less than 20% on a conventional loan, usually at least some of the down payment will need to come from your own funds. With an FHA loan however, you can usually use a gift for your entire down payment, as long as you meet the lender’s minimum credit score threshold.

• Can help you with seller-paid closing costs. Closing costs can include things like lender fees, appraisal and inspector costs, and title fees, and they can add up really fast! What a lot of home buyers don’t know, is that they can ask the seller to cover the closing costs for them. There’s a catch though. With a conventional mortgage, the seller can only typically pay up to 3% of the home’s purchase price toward the buyer’s closing costs. In other words, if you were buying a $100,000 home, the seller could only pay up to $3,000 of your closing costs. With an FHA loan however, sellers are permitted to pay up to 6% of the purchase price toward a buyer’s closing costs. So, if you were buying a $100,000 home with an FHA loan, the seller could pay up to $6,000 of your closing costs.

• More lenient credit score requirements. While folks with bumps and bruises in their credit history may have a hard time getting a conventional mortgage, they still have a good opportunity to secure an FHA loan. While credit score thresholds will vary by lender, typically to qualify for an FHA loan with a down payment as low as 3.5%, your credit score must be 580 or higher. If your score hovers between 500 and 579, a 10% down payment is usually required. Those with scores below 500 typically are ineligible for consideration, but under certain circumstances allowances can be made for borrowers with nontraditional credit history or insufficient credit (if other criteria are met), depending on the lender.

• Less strict debt-to-income ratio requirements. Borrowers who have a lot of student loan or credit card debt might find themselves with a high debt-to-income ratio, which could disqualify them for a conventional mortgage. Because FHA loans have more lenient debt-to-income ratio requirements, those same borrowers could still be eligible for an FHA loan.

• They can be refinanced more easily. Homeowners with existing FHA loans could be eligible for an FHA Streamline Refinance. Unlike a typical refinance, an FHA Streamline Refinance does not require a home appraisal, or a re-verification of employment, income, or credit history. This eliminates a lot of the time, hassle, and paperwork that usually comes with refinancing a mortgage. FHA Streamline policies can vary by lender, so it’s a good idea to speak with a mortgage professional at your financial institution for the most accurate and up-to-date information.

Although the FHA program has plenty of benefits, there are some specific things that you should keep in mind when deciding if an FHA loan is a good fit for you. For starters, an upfront mortgage insurance premium is required with an FHA loan. In addition, a modest insurance premium is included in each monthly payment. The amount you pay will depend on the level of risk the FHA assumes with your loan. Also, it’s good to be aware that in exchange for a smaller down payment, you could be faced with higher interest rates compared to a conventional loan.

The mortgage that’s right for you will depend on your individual financial situation, and your personal home ownership goals. But when weighing your borrowing options, at least considering an FHA loan is the smart thing to do. It just might help open the door to your new home!