What is an FHA loan?

What is an FHA loan?

An FHA loan is a mortgage insured by the Federal Housing Administration (FHA). It is particularly popular with first-time homebuyers because it allows borrowers to finance homes with low down payments, sometimes as low as 3.5% of the sales price. Borrowers with lower credit scores and smaller down payments tend to gravitate toward FHA loans since they are often the most affordable loan option.

FHA loans require mortgage insurance due to the low-down-payment option and less stringent qualification guidelines. FHA loans require both upfront and annual mortgage insurance for all borrowers regardless of the amount of the down payment. However, the cost is not a deterrent for most FHA borrowers. It is essential to understand that mortgage insurance differs from homeowner’s insurance. Homeowner’s Insurance protects borrowers by ensuring their homes and contents are covered should an event occur to damage or destroy them. Homeowners’ coverage varies depending on the policy and options, so homebuyers should speak with a qualified insurance agent to learn the specifics.

Key requirements for FHA loans:

Credit score:

• A minimum FICO^® score of 580 is required to qualify for the low-down-payment advantage (currently at 3.5%). If your credit score is below 580, the down payment requirement increases to 10%.

Remember that FHA credit requirements consider more than just your FICO® score; they also assess payment history, bankruptcies, foreclosures, and extenuating circumstances.

Down payment:

• The minimum down payment for an FHA loan is 3.5% of the purchase price.

The down payment option makes FHA loans attractive for buyers who haven’t saved up a sizeable down payment.

Residence type:

• The property must be your primary residence.

FHA loans are not intended for investment properties or second homes. You can use an FHA loan to purchase a multi-unit dwelling (up to four units). However, you must live in one unit as your primary residence. You can rent out the other units if you buy a multi-unit property. The rental income from those units can be considered for verifiable income purposes when qualifying for the loan.

Appraisal:

• An appraisal must determine the property’s value and ensure it meets FHA standards.

Mortgage insurance:

• Mortgage Insurance protects lenders against losses that may result from home mortgage defaults. Due to the less stringent eligibility requirements for FHA loans, they are considered more risky than conventional loans.

Debt-to-income ratio (DTI):

• Lenders evaluate your DTI to assess your ability to manage mortgage payments. A DTI, or debt-to-income ratio, is a financial metric to evaluate an individual’s ability to manage debt. The DTI ratio represents a percentage of your gross monthly income that goes toward paying your monthly debt obligations.

Verifiable income:

• You must have a steady income and proof of employment. FHA loans are not approved based on income but rather on the amount taken up by debts, including current housing payments.

No delinquency on federal taxes or student loans:

• FHA applicants should not be delinquent on federal tax payments or federal student loans.

If you’re considering an FHA loan, consult with one of our loan officers to understand the specifics and explore your options. Remember, FHA loans provide an accessible path to homeownership, especially for those who may not qualify for conventional loans. If you have any questions or need further assistance, contact us today.