For over eighty-three years, American consumers have been buying a home with FHA loan financing. People who have less than stellar credit may be under the impression that they have to wait until they have 740 credit to buy a home. This is not true. Of course, there is no charge to complete an FHA loan application today. The Federal Housing Administration does not allow up-front FHA applications fees and there is never a penalty for paying off a FHA insured mortgage early. In this guide, we’ll outline specifically how to apply for a FHA loan without spending a dime.
Find Out Why so Many People Choose FHA Financing to Buy Their First Home
Today, there are options for people who have average to poor credit to buy their own home. With the advantage of government-backed mortgages such as the “FHA loan”, it is possible for borrowers with low-credit scores to buy a home. One of the main reasons that the Federal Housing Administration has such a strong reputation in the lending community is that FHA loan qualifications are more easily obtained in most instances. Stop paying rent this year with and apply for FHA home loan financing!
Here are some great reasons to call your mortgage lender today and apply for FHA loan programs:
#1 Your Credit Can Stink
That is putting it a bit harshly, but why beat around the bush? One of the biggest reason you should submit a FHA home loan application is that you can have bad credit. In fact, it is feasible this year to find an FHA loan with a terrible score of 500. It is not easy: Of course, even with a bad-credit FHA mortgage, You have to show the direct endorsed underwriter that you are able to pay your bills and can afford the mortgage. You may be turned down by several approved FHA lenders, but it is possible to be approved with a 500 score.
If your score is 580 or higher, things get a lot easier. Borrowers who have a score in the 600’s are more likely to be approved. HUD Approved lending companies want to see that you have been paying your bills regularly for the last year or so, and have the income to pay the mortgage, before applying for FHA loans with poor credit. Check today’s FHA credit score requirements.
#2 You Can’t Find a Lower Down Payment Outside of FHA Finance Loans
After credit, the next biggest obstacle to buying a home today is the down payment. The days of 100% financing loans are long behind us, mostly. There are two exceptions:
- The VA home loan – 100% house financing is available for some military veterans and active military borrowers that meet the VA eligibility requirements.
- The USDA loans – if you buy a home in a USDA-designated rural area and have ‘low’ income and poor credit, you may get a 100% financing-loan.
But other than those two exceptions, the down-payment for FHA loans have the lowest requirement around. If you have a credit score of 580 or higher, you may qualify for just a 3.5% down payment. How many people can’t afford a 3.5% down payment? On a $200,000 loan, that is only $7500. If you cannot afford that, we would argue you probably shouldn’t buy a home anyway.
Low Down Payment on FHA Loans
With an FHA loan and a 580+ FICO score, you could put down as little as 3.5% down to buy your home. You would be very hard pressed to put down less money on a home today. Only VA and USDA mortgages offer $0 down-financing today, but not everyone will qualify for those types of government-backed loans. With limited credit and no mortgage payment history, applying for a FHA mortgage is a safer bet.
#3 FHA Interest Rates Are Historically Low
We are almost to 2018, and rates for FHA loans are hovering around 4% again. Even though the Federal Reserve hiked its key interest rates three times in the last year or so, mortgage rates have not gone up a great deal. They did rise in early 2017, but President Trump’s economic plans have stalled in Congress, and who knows if Obamacare will ever go away or not.
These facts have introduced some economic uncertainty in the markets. On the plus side, it has kept the lid on mortgage rates. The current-FHA rates are incredibly low. They are in fact usually lower than conventional loan rates.
It seems hard to believe that rates for a bad credit borrower can be under 4%. But FHA guarantees these loans against default. So to some degree, brokers and lenders can afford to risk giving loans to people who might not otherwise qualify.
People who have bad credit might think that they are stuck with a high rate mortgage. FHA mortgages can be a serious lifesaver. Even with a credit score in the low 600’s, you may be able to lock in a very low interest rate.
The reason you can do this with bad credit is FHA loans are guaranteed by the US government. Default on your mortgage, and the government pays off the lender. It is to the mortgage company’s benefit to offer more flexible credit terms to bad credit borrowers in this situation.
It may be possible in 2018 to still get an FHA loan rate in the 4% range according to Zillow reports, and this could be even lower than conventional interest rates. That is a great deal for a borrower with a sub-par credit score. FHA loan qualifications are more attainable than at any time of the last decade.
Fixed and Adjustable Rates Available with FHA Mortgages
You can get either a fixed or adjustable rate mortgage, depending upon your financial situation and risk tolerance. You do not have to get a fixed rate if you would prefer an adjustable five or seven-year mortgage. This can save you a good deal of interest.
#4 FHA Loans Can Be Assumed
Not only are FHA loan limits high, but FHA home loans are assumable as well. This is a little benefit that most people do not know about. An FHA loan can be assumed by another borrower. When it is time to sell your home, your assumable FHA loan can be taken over by another borrower, as long as they qualify.
This isn’t a big deal in a low rate environment sometimes. But if rates spike in the next five years, having a super low sub-4% rate could help to get your house sold fast. Don’t underestimate the value of having an assumable mortgage insured by the FHA.
FHA and the Power of the Assumable Home Loan
Many people are well aware of the major benefits of the FHA loan, but there are other benefits that do not get as much press. If you are thinking of buying your own home in 2017, you should become familiar with both the well known and less well known benefits of the FHA loan.
The FHA Financing Benefit Many People Don’t Know
A very unusual benefit of FHA financing is that it can be assumed. This means that when you sell your home, your buyer can ‘take over’ your FHA loan if they qualify.
Why would people want to take over another party’s loan? Because interest rates change. As of 2017, interest rates on 30-year, fixed rate FHA loans are at or below 4%. It is not likely that rates are going to be this low forever. The Fed continues to slowly ratchet up its key interest rate. As the economy picks up steam in the Trump administration (hopefully, if the Congress passes tax cuts), we can assume that interest rates in the next five years will be higher than today.
If you decide in five years to sell your home, and the rates are 1% higher than right now, your potential buyer may be able to assume your FHA loan. In a 5% rate environment, that buyer may be able to get a 4% loan. Now that is a great deal!
This assumability would make it easier in theory for you to sell your home in a rising rate environment.
When you sell your home, the mortgage company would need to qualify the new buyer and approve them for an FHA loan. When the house sells and the loan closes, the buyer would assume the obligations of your assumable FHA mortgage.
Another advantage of an assumable FHA loan that many do not know is that this arrangement avoids most closing costs on a new mortgage. Every time a new mortgage is issued, there are thousands in closing costs. Assuming a mortgage means most of these fees are avoided.
Assumability of an FHA house loan is especially valuable, experts say, for those who sell their home from three to seven years from when they bought it. Under three years, it is unlikely that rates will be much higher than now. After seven years, the benefits of an assumable loan are reduced because you have paid down more of the mortgage, and home appreciation also is a factor.
Still, being able to assume a FHA mortgage is a major advantage worth knowing when you are applying for a FHA home loan.
#5 You Can Have Foreclosures or Bankruptcy
One of the most persistent myths in the home buying and mortgage world is that you cannot buy a home for seven years after a foreclosure or bankruptcy. We wish that we could bury that myth once and for all, but it continues to rear its head every day!
Here’s the truth: If you have a foreclosure and/or a bankruptcy on your record, it is true that it will stay on your record for seven years, most likely. After seven years, it will drop off your credit report (if it does not, you should contact the credit bureaus and ensure that it does drop).
But there are many mortgage companies that will give you a home loan with these black marks on your record. In FHA’s case, you may get a loan in as little as one year after a bankruptcy or foreclosure. But two years is more common.
FHA will want to verify that your finances have recovered and you have the means to pay your mortgage. But it is certainly possible to get approved for a FHA loan with these black marks on your credit report.
#6 Streamline Refinance
FHA has a great feature called the FHA-streamline. If the rates drop, you may have the option of doing a simple refinance into a lower rate. You cannot pull out cash, but you can get into a lower rate mortgage with a streamline refinance. There is no credit check or income verification, and you can even use your old appraisal.
As long as you have paid your long on time for at least the last six months, you may be eligible to refinance with a FHA streamline and save big on your monthly payment. Verify that you already have a mortgage insured by the Federal Housing Administration and then complete an application for a FHA streamline loan.
#7 No Income Limits
FHA loans with their low rates and down payments are available to people with both low and high incomes. Some special loan programs out there have maximum income limits that means many working-class buyers are locked out. FHA loans are available for all income ranges.
#8 Gift Payments
Do you not have enough cash for your down payment? FHA allows you to get all of your down payment from the gift of a family member or friend. So, in theory, you could get into a home with no money down.
#9 Flexible Debt to Income Ratios
FHA has very flexible criteria for your debt to income ratio. They want as many people as possible with sufficient income to be able to buy a home. At this time, FHA wants to see a front-end ratio of 31%; this means that your payment for mortgage principal, interest, taxes and insurance should not exceed 31% of your gross monthly income.
For back end ratio, FHA wants to see 43%. This means the total sum of all of your monthly debt obligations should not exceed 43% of your gross income. FHA may allow you to have higher ratios if you have good credit or put more money down.
The Silver Lining
If you are considering buying a home this year, we suggest you apply for FHA loan. The U.S. Congress and the Department of Housing Development have come together to make sure that there are great deals in 2017. You should certainly submit a FHA loan application and check with your mortgage lender today to see if you can qualify.
Top 6 Reasons Not to Choose a FHA Loan Program
Getting a home loan in 2018 could be easier than ever, due in part to FHA loan products. FHA financing is guaranteed by the Federal Housing Administration. They feature low interest rates, down payments of 3.5%, and they allow for credit scores as low as 500. A credit score of only 580 is needed for the lowest FHA loan down payment.
As great as the FHA program is, not everyone should apply for FHA loans. If you are in the market for a home loan, here are some good reasons you may not want to choose an FHA loan:
FHA Loans Have Mortgage Insurance Premiums
To pay for the FHA guarantee of the loan in case of default, all FHA loans have mortgage insurance premiums. Each borrower is charged an annual MIP of as much as 1.35% of the loan balance, but it can be less. This fee is added to your monthly mortgage payment. You also have to pay a 1.75% upfront fee, which can be added to the balance of the loan.
So, if you get a $200,000 loan, you will pay approximately $150 per month for your mortgage insurance, plus an upfront fee of $3500. If you keep the loan for 10 years, this would cost you about $30,000 in mortgage insurance costs.
This is a good deal more than what a borrower pays for PMI on a conventional loan.
Also note that most FHA loans today require you to pay mortgage insurance for the life of the loan. This is the case for most loans closed after July 3, 2013. If you put down more than 10%, you can cancel MIP after 11 years, however.
You Have Enough Money for a 20% Down Payment
One of the most common reasons that people get an FHA loan is that they don’t have enough money for a large down payment. FHA loans can have a down payment as low as 3.5%.
However, if you have enough money to put down 5%, 10% or even 20%, you should consider a conventional loan if you have good enough credit. There is no reason that you should be paying for mortgage insurance with an FHA loan if you have a 20% down payment.
If you have more than 3.5% to put down but less than 20%, you still should consider a conventional loan. Mortgage insurance costs less with a conventional loan, and it can be waived once you reach 78% LTV with a conventional loan. Most FHA loan approvals must have mortgage insurance for the life of the loan.
You Have a Credit Score of 620 or Higher
The minimum credit score for a conventional loan will vary considerably based upon the lender you select. Some conventional lenders in 2017 will consider you with a 620+ credit score, while others want to see a 680+ credit score.
Generally, if you have a credit score above 680, we recommend that you look at conventional loans. FHA loans are best suited for people with credit problems, and credit scores below 620.
You Don’t Have Any Major Negative Credit Problems
FHA loans are fantastic for borrowers who have had a recent foreclosure or bankruptcy. These borrowers may be able to qualify for an FHA loan after only a year or two from a bankruptcy or foreclosure.
If you have not had this type of negative credit event, you should probably think about a conventional loan. People with good credit above 700 and no major negative credit history are good candidates for a conventional loan.
You Have a Debt to Income Ratio of 30-40%
The DTI or debt to income ratio is used by lenders to determine how much of your income is being used just to pay debt. The higher your DTI, the more likely you are in too much debt.
Conventional lenders like to see a DTI of less than 30%, but 30-40% is possible. FHA loan lenders can allow DTI up to 50%. This means that your total monthly debt payments cannot exceed 50% of your gross monthly income.
You Have a Higher Income
FHA loans are often very suitable for people with a lower level of income. If you have an income above $100,000 per year in your house, a conventional loan could be better.
FHA has very good loan programs that are suitable for many Americans today. But FHA insured loans are not the best choice for some borrowers. FHA loans cost more than conventional loans, so there really is no point to choose FHA financing if you can qualify for a conventional loan.
Also note that there are some conventional loans available today with a down payment of 3-5%. So, we recommend that better credit and higher income borrowers first look at conventional instead of FHA loans.
House Buying Analysis with FHA Loan Financing
Many first time and low credit score home buyers opt for an FHA loan. The FHA program is backed by the Federal Housing Administration. It offers buyers a low-down payment, low interest rate mortgage loan. It is often the best choice for the borrower who does not have a lot of cash to put down and has had past credit issues.
If you are considering buying a home with an FHA loan, below is what you need to know to do your house buying analysis with FHA mortgage financing.
FHA Down-Payment Requirements
One of the biggest assets for the FHA program is that you only have to put down as little as 3.5% when you buy your home. Many conventional programs require a down payment of 20%.
Many lower income borrowers, especially first-time home buyers, cannot afford that type of down payment. The FHA loan provides the chance to get out of renting and buying your own home with only 3.5% down.
To get a 3.5% down payment through an FHA loan, you must have at least a 500 FICO score, and it is better to have a 580 score or higher.
FHA Income Limits
There is no income limit with an FHA loan program. The program is available to people with higher incomes who have credit problems. Other competing programs, such as the innovative 1% down program available through Quicken Loans, only allow you to have an income that is no higher than the median income for your area.
If you have an income above the median for your area and bad credit, you may want to consider an FHA loan.
There are some requirements however to qualify for this program beyond a 500-credit score:
- You must have at least two credit accounts established, such as a credit card and a car loan. If you have no credit history at all, you cannot qualify for the program.
- You cannot have any late federal tax payments or judgments. It is fine to have a payment agreement with the IRS, but you have to be current on your payment plan.
- If you are getting the down payment as a gift, you have to have a separate bank account to accept that gift.
FHA D.T.I. Requirements
The FHA program allows you to have a higher debt to income or DTI ratio than some programs. Your maximum DTI cannot be above 50%. This means that the sum of all monthly debt payments cannot be more than 50% of your gross monthly income.
Understanding Debt to Income Ratio and Residual Income Requirements with FHA Loan Programs
The FHA loan is a great option for home buyers who have lower credit scores, less money to put down, and higher debt to income (DTI) ratios. People who have difficulty getting a conventional home loan with their higher credit and DTI standards may be able to stop paying rent much sooner if they can be approved for an FHA loan.
But even though FHA loans have quite flexible approval requirements, there are certain standards that you must met.
One of the most important for an FHA loan is your DTI ratio. When you submit your application, the FHA-approved lender will review your DTI ratio to see if you can be approved for the loan. If you have too much debt compared to your income, you could be turned down. On the other side, if you have a reasonable amount of debt, you probably can get approved.
As of this year, the DTI ratio for FHA loans is 31% for your house related debt, and 43% for your total debt. This means that your total mortgage related debt each month compared to your monthly income cannot exceed 31% of your gross. For the other ratio, your total debt payments each month cannot exceed 43% of your gross monthly income.
Fortunately, FHA lenders do have some flexibility in approving people who have slightly higher ratios. It depends upon the lender and your individual application.
Compensating Factors to Consider When You Apply for FHA Loans Online
HUD gives FHA loan lenders some leeway to give the green light to borrowers with DTI ratios above the ones mentioned earlier. If the lender can show that you have significant compensating factors, it is possible to be approved with a higher DTI.
Below are some of the common compensating lending factors that may get you approved:
- Down payment: HUD requires you to make at least a 3.5% down payment to buy a home with an FHA loan. Making a down payment that is higher than the minimum could allow you to have a higher DTI ratio. For example, if you can put down 10%, you may still qualify for an FHA loan even if your DTI ratios are above 31% and 43%.
- History of payments: If you have been successful in making mortgage payments in the past that are the same or greater than your new proposed loan payment, you may still get approved.
- Savings: If you have a conservative attitude towards using credit and have savings built up, your DTI could be less important. You should have a few months of mortgage payments in reserve here.
- Decent credit: You can apply for a FHA loan with a 500-credit score, but if you have high DTI, you should have a credit score in the mid to high 600’s at minimum.
- Small increase: If the loan that you want to get will only cause a small bump in your monthly housing expense, you may still qualify for the loan.
Note that you do not have to meet all of the above to apply for a FHA mortgage with a higher than average DTI ratio. If you have one or two of these compensating factors, this could be enough to get an approval.
Limits on FHA Loan Amounts
There are limits on the value of the property you buy. For homes in lower cost areas in 2017, the maximum value is $275,600. For high cost areas in California, the maximum is $636,100. It is imperative to know what the maximum FHA loan amount is before making offers on a property. If your home is above the maximum amount for your area, you cannot use an FHA loan. See what FHA limits are in your region.
Property Requirements for FHA Loans
Some of the requirements for a property bought with an FHA lien are:
- The property must be your primary residence, so no investment properties are allowed. The only exception is a duplex, triplex or quadplex. In those cases, you can use an FHA loan for the purchase and live in one of the units yourself.
- The property is not allowed to be a flip; this means that you cannot purchase the home within 90 days of a sale.
- You have to take title to the property in your name; you also can take it in the name of a living trust.
- You must occupy the home within 60 days of closing.
- The home has to be appraised by an appraiser approved by FHA. The home must appraise for the amount being borrowed or more, and also must meet the minimum quality standards of FHA.
If you want to apply for a FHA loan, you have to have proof of your SS number and also have pay-stubs, tax returns and W-2’s. The self-employed will need tax returns and a profit and loss statement.
FHA Loan Costs
Yes, there are hard costs involved with FHA loan financing that the borrower is required to pay prior to escrow closing. These FHA costs include lender fees, home inspection fees, appraiser costs, prepaid interest, and in some states, attorney fees. Most of the FHA loan programs allow lenders, brokers banks and home sellers to pay some and in many instances, all the home buyers closing costs. Ask your FHA loan lenders what is permitted in your state with your proposed purchase.
FHA Lender Requirements
FHA insures the loan, but the lender makes the final call on whether to grant the loan. The lender can have higher and stricter requirements than FHA. For example, FHA has a 500-minimum credit score requirement, but your FHA finance company may require a 620-credit score. You have to find a lender who is willing to work with you based upon your credit score.
How to Decide If an FHA Loan Is Right for You
The FHA program is ideal for the lower income borrower who cannot put a lot of money down. This is a great program for the first-time buyer who does not have equity in another property. It also works well for buyers with credit problems.
FHA loans have very low rates, but remember there is a cost. Every FHA borrower has to pay expensive mortgage insurance premiums. You must pay an upfront mortgage insurance premium when you buy the home. You also need to pay a yearly mortgage insurance premium as part of your monthly payment.
Whether this is a good program or not for you comes down largely to the mortgage insurance requirement. The insurance on FHA loans remains pricey. If you have more to put down than 3.5% and have a 680-credit score, you may be better off getting a conventional loan with lower mortgage insurance costs.
FHA loan qualifications also require you to pay mortgage insurance for the entire length of the loan, even after you reach 20% equity. The only exception is if you put down 10%; in that case, you can cancel MIP after 11 years.
Borrowers with higher credit scores who can put down at least 5% may want to opt for a conventional loan because of the lower mortgage insurance cost. You also can cancel PMI as soon as you reach 78% LTV.
FHA in the News:
As FHA capital reserves dwindled in 2017, many housing industry sectors began questioning whether mortgage insurance rates would be lowered in the foreseeable future. Will Trump or HUD Reduce Insurance Premiums on FHA Mortgages?
“The Mortgage Bankers Association applauds the nomination of Brian Montgomery to lead the Federal Housing Administration,” MBA CEO David Stevens said. “His previous experience will serve him well in this position.” Read more Trump Appoints Brian Montgomery to Run the FHA
How Can Hurricane Victims Delay Making Their Home Loan Payments? – Brian Sullivan, a spokesperson for the federal Department of Housing and Urban Development, stated on September 15th that approximately 280,000 Florida homeowners with FHA financing live in counties affected by Hurricane Irma.
References: FHA Loans. (n.d.). Retrieved from http://www.bankrate.com/finance/mortgages/homebuyers-get-fha-loans.aspx and Buying House – Insider’s Guide to FHA Loans. (2017). Retrieved from https://www.usatoday.com/story/money/personalfinance/2017/05/16/buying-house-insiders-guide-fha-loan-requirements-2017/101570216/ and FHA DTI Ratio Requirements and Limits for 2017. (n.d.). Retrieved from http://www.fhahandbook.com/debt-ratios.php