An FHA loan is a mortgage that has been insured by the Federal Housing Administration. Because it has been insured by the federal government, lenders are protected from a loss if the borrower defaults on the loan. Borrowers, however, do have to pay for the insurance on the mortgage.
The FHA loan program began as a way to help boost the housing market during the Great Depression. Today, it continues to make loans more accessible for people looking to buy homes they may otherwise not be able to afford.
Applying for an FHA Loan
To get an FHA loan, you have to go through an FHA-approved lender. The interest rates offered aren’t required to be the same for every lender, nor are the cost of services and underwriting, so it’s important for borrowers to weigh their options carefully.
The credit score needed to qualify for an FHA Loan is 500, though some applicants who have what the FHA calls a “nontraditional credit history or insufficient credit” may still be able to qualify. Borrowers will also need to sign up for mortgage insurance.
Benefits of an FHA Loan
Because FHA loans are insured, lenders are able to give them out at lower interest rates and looser qualification requirements.
Those who have fair to good credit, that is a score of 580 or above, can get a down payment for as low as 3.5%, much better than a 20% traditional payment. Those with a credit score between 500 and 579 will likely have to make a down payment upwards of 10%. Borrowers can elect to use their own savings to make the down payment, but other sources such as cash gifts or government grants are also allowed.
Another great thing about an FHA loan is that even if you’ve undergone bankruptcy or have been foreclosed upon, you may still be able to qualify. FHA loans are also assumable, meaning that if you sell your home, the buyer can take on the loan.
With an FHA loan, builders and lenders can pay for some of the closing costs. These expenses may include an appraisal, a credit report, title costs, etc. Keep in mind that if the lender pays for these costs, they’ll likely charge you a higher interest rate on the loan. Borrowers can use a good faith estimate (GFE) to compare the difference between paying for the closing expenses or excepting the higher interest rate.
Mortgage Insurance
FHA Loans require two mortgage insurance premiums. The first one is an upfront premium that is 1.75% of the loan amount. You can choose to either pay this premium as soon as you get the loan, or you can have it financed as part of the loan amount.
The second premium is an annual premium, although it is paid monthly. The amounts of the premium will vary based on the length of the loan, the amount borrowed, and the initial loan-to-value ratio (LTV).
Annual Premiums for FHA Loans
15-year loan, down payment (or equity) of less than 10% = 0.7%
15-year loan, down payment (or equity) of 10% or more = 0.45%
30-year loan, down payment (or equity) of less than 5% = 0.85%
30-year loan, down payment (or equity) of 5% or more = 0.8%
FHA loans are great for people looking to buy a house but need a little extra help in getting there. Borrowers will feel slightly more secure with FHA loans than others, as servicers have been known to give relief to borrowers going through financial hardship. Relief could take the form of a temporary forbearance, a loan modification, or a deferral of part of the loan at no interest.
To see if an FHA loan is right for you, contact an FHA-approved lender to learn more.