An FHA loan is a mortgage insured by the Federal Housing Administration, which allows your lender to offer you a better deal compared with a conventional loan. Government backing means easier credit qualifying and lower down payments because lenders are protected if you default on payments.
Buyers can obtain FHA home loans through approved lenders, such as banks. The loans have 15- or 30-year terms with fixed or adjustable interest rates.
Flexible underwriting standards are geared toward homebuyers with credit blemishes or little savings toward a down payment. You could qualify for an FHA loan if you’ve had a bankruptcy or other financial difficulties, but you will need to satisfy certain requirements regardless of your circumstances.
Types of FHA Loans
- Traditional purchase mortgage. An FHA mortgage loan finances the purchase a primary residence, usually for low- to moderate-income borrowers or first-time homebuyers with smaller down payments.
- Renovation mortgage. The FHA 203(k) loan program is for buyers purchasing a fixer-upper who need the funds for home improvements built into the loan. An FHA Energy Efficient Mortgage includes funds to upgrade your home’s energy efficiency, such as adding double-paned windows or a setback thermostat.
- Home equity conversion mortgage. Also known as a reverse mortgage, this type of FHA mortgage helps seniors age 62 and over retain the title to a home but convert its equity into cash. Among other qualifications, you must use the home as your primary residence, own the home outright or have considerately paid down its existing mortgage.
- Graduated payment mortgage. The FHA section 245 program is best for borrowers who expect their income to increase, such as low-income and young families. Payments start modestly and gradually increase during each year of the loan.
Pros
-
The down payment can be as low as of 3.5% for borrowers with a credit score of 580 or higher.
-
Those with a down payment of 10% or higher can qualify with a credit score as low as 500.
-
FHA mortgage rates are typically lower than conventional mortgage rates, depending on the applicant.
-
There are no minimum or maximum income requirements.
Cons
-
Borrowers will pay upfront and monthly mortgage insurance, which can increase the cost of borrowing.
-
Strict FHA home appraisal guidelines may cause a seller to refuse an offer.
-
You may face potentially restrictive maximum loan limits, depending on where you live.
-
An FHA loan can only be used to purchase a primary residence, not investment properties or second homes.
Government backing can make owning a home possible for people who might otherwise have been denied loans. Although FHA loans feature relaxed credit requirements, you still must present the best payment history you can.
Bankruptcy does not rule out an FHA home loan, but you will have to wait two years to apply. A foreclosure requires a three-year waiting period.
Also, note that borrowers cannot get an FHA loan without a down payment. But you can use gift funds to cover your down payment, and the seller can pay some of your closing costs: up to 6% of the home’s purchase price.
FHA Loan Requirements
The borrower must meet certain eligibility criteria to qualify for an FHA home loan. Key requirements include:
- A minimum down payment of 3.5% for a credit score of at least 580.
- At least 10% down if your credit score is between 500 and 579.
- A debt-to-income ratio of no more than 50%.
- Steady income and proof of employment, such as pay stubs and tax returns.
- A valid Social Security number and legal U.S. residency.
Importantly, FHA loans require both upfront and annual mortgage insurance for all borrowers, regardless of the amount of down payment.
The upfront mortgage insurance premium is 1.75% of the loan amount and can be paid at closing or rolled into the loan. The annual premium is typically added to your monthly mortgage payment and can range from 0.15% to 1.05% of the loan amount per year.
If you put at least 10% down, you will pay this premium for 11 years – but if you put less than 10% down, you will pay the entire term length. Getting rid of FHA mortgage insurance requires refinancing into a non-FHA loan.
“If a borrower has good credit but limited cash on hand, other government-backed loans are available for less money down,” says Stephen Moye, sales manager and senior loan officer for Tustin, California, mortgage lender New American Funding.
Is your dream home within reach? U.S. News’ mortgage calculator will show you how much house you can afford.
An initial payment made when the home is bought.
The amount of time you have to repay the mortgage.
The APR (annual percentage rate) you pay to the lender, which can be found in your loan agreement. The default displayed represents yesterdays national average APR for 30-year fixed mortgages.
Payment Details
Monthly Payment Breakdown
You’ve shopped around for the best FHA lenders, comparing rates and fees before choosing an offer. Here’s what to do when you’re ready to apply:
1. Complete a loan application. Keep on hand information about your income, debt and cash for a down payment. Whether you apply by phone or online, the lender will request supporting documents to verify your finances. Examples of what you may need for the application include tax returns and W-2 forms from the last two years, bank statements from the previous 60 days, retirement account and other statements, recent pay stubs and proof of other income.
2. Allow the lender to check your credit. The lender will make sure you meet the minimum credit score requirement and provide an FHA loan preapproval.
3. After you apply, the lender must give you a loan estimate within three business days. This is a standard form all lenders use to provide information upfront about your estimated interest rate, monthly mortgage payment and closing costs. The estimate will allow you to compare loan offers – the same loan type, term and amount – on equal footing and find the best deal.
4. Wait for the loan to go through underwriting. The underwriter will review your application and supporting documentation to make sure you meet the requirements for an FHA loan.
Shop around to find the best FHA mortgage lender to meet your needs. When looking for the best FHA home loan, consider these criteria:
- Product type. Look at loan types and terms that lenders offer, and see if they have the right loan to meet your needs.
- Interest rate. Compare annual percentage rates, or APRs. Because this figure includes your interest rate as well as points and other fees, the APR will be higher than the interest rate and is a more accurate measure of a loan’s true cost. Even slightly lower interest rates can equate to thousands of dollars saved over the life of a loan.
- Closing costs. Expect to pay 2% to 6% of your loan amount in closing costs. Some states offer programs for closing cost assistance, particularly for first-time homebuyers. Keep in mind that low closing costs and a high interest rate could cost more than higher closing costs and lower interest rates. Also, if you roll closing costs into your loan’s monthly mortgage payment, remember that you will pay interest on those costs.
- Customer service reviews. Read reviews for FHA mortgage lenders to find out what’s good – and not so good – about them. Check the Consumer Financial Protection Bureau complaint database to learn about common problems with lenders.
FHA loans can offer many benefits to the right borrower, but be sure to explore all of your mortgage options. Possible alternatives include:
USDA loans: The U.S. Department of Agriculture offers direct loans and guaranteed loans to low- to moderate-income borrowers who live in an eligible rural area. Buyers generally won’t need to make a down payment.
VA loans: Much like the FHA insures FHA loans, the Department of Veterans Affairs guarantees loans from private VA mortgage lenders. Qualified borrowers can get loans with no down payment, but keep in mind that private lenders often require a credit score of at least 620.
Down payment assistance programs: If you’re considering an FHA loan because you can’t afford a bigger down payment, you can look into down payment assistance programs. Options may include grants and second mortgages.
Mortgage interest rates increased this week, according to the Mortgage Bankers Association. Mortgage application activity decreased in turn, showing that today’s buyers remain sensitive to minor fluctuations in rates.
Looking forward, mortgage interest rates are still forecasted to decline somewhat throughout 2024, as the Federal Reserve projects rate cuts will begin sometime later this year. Here are the current mortgage rates, as of June 5:
- 30-year fixed: 7.07% with 0.65 points (previous week: 7.05% with 0.63 points).
- 15-year fixed: 6.75% with 0.63 points (previous week: 6.66% with 0.69 points).
- 5/1 ARM: 6.37% with 0.63 points (previous week: 6.64% with 0.77 points).
- 3-year jumbo loans: 7.21% with 0.41 points (previous week: 7.22% with 0.43 points).
- 30-year FHA loans: 6.87% with 0.96 points (previous week: 6.85% with 0.95 points).
For an FHA loan with a down payment of 3.5%, borrowers usually need a credit score of 580 or higher. With a credit score between 500 and 579, the borrower has to put down at least 10%.
You can seek preapproval for an FHA loan from an FHA-approved lender. The process will resemble the one for other types of mortgages. If you are preapproved, you will receive a letter that is valid for 60 to 90 days. The letter typically includes the purchase price, loan program, interest rate, loan amount, down payment amount and property address.
Borrowers will need to provide documents to verify income and employment, such as W-2 forms and pay stubs, as well as bank and retirement account statements, and other records.
FHA loans are meant to fund the purchase of primary residences – not investment properties or vacation homes. However, there are certain circumstances in which you might be able to borrow a second FHA loan when you already have one, including divorce or job relocation.