First time home buyers have many choices of mortgage loans available to them. Two of the most common are first time home mortgages that are backed by the Federal Housing Administration (FHA) and the Federal National Mortgage Association (Fannie Mae).
Both of these entities offer attractive home loan programs with low down payments and reasonable credit scores. But there are many differences between them that you should understand. Below is more information about each entity and the types of loans they offer for first-time house buyers.
Home-ownership rates are rebounding again as Fannie Mae and FHA continue to roll out affordable home financing for all Americans.
Overview of FHA vs. Fannie Mae
Whether you choose an FHA or Fannie Mae loan, understand that neither the FHA or Fannie Mae actually issue loans. FHA insures the loan against default to protect the bank or lender. It offers default protection so that licensed FHA mortgage lenders will lower their credit and other criteria for approved FHA loans. Lenders can issue FHA-insured loans to higher-risk borrowers who do not have as much to put down and have a lower credit score.
Lenders who are approved by FHA will review your credit score, income and debt when they are deciding to approve you or not.
FHA requires borrowers to have at least a 500-credit score to be eligible. However, you will need to have 10% down with a 500-credit score. Borrowers with at least a 580-credit score
Fannie Mae is a publicly-traded organization that is managed by the US government. It buys loans from various lenders. This allows lenders to free up their assets so that they can continue to write more mortgages. Some borrowers may be able to qualify for both types of mortgages.
You may be able to become a homeowner and only put down only 3.5%.
FHA allows the down payment to come in the form of a gift, or as a seller’s credit at closing. This makes the FHA program quite attractive to lower-income borrowers. It also is very attractive to first-time house buyers who do not have equity in another property to use for their down payment. FHA first time loan programs have easy credit standards and realistic down-payment requirements for qualified borrowers.
FHA will take a close look at your total amount of debt compared to your income. It wants to ensure you have enough income to pay your mortgage and your other financial obligations. FHA uses a DTI standard of 31/43 in most situations.
The 31% is the percentage of all of your monthly debt obligations divided by your gross monthly income. This is the front-end DTI. The 43% is the back-end DTI. It refers to all of your monthly debt obligations, plus your total mortgage payment. Lenders do not want to see a monthly debt of more than 43% of your total gross monthly income. People with a higher level of debt are more likely to default.
If you have a higher down payment, FHA may allow you in some cases to have a higher DTI, however.
FHA home loans are available with 3% down payments in the form of fixed and adjustable-rate loans, and 15 and 30-year loans are offered. You do not have to have a higher credit score to get an ARM with FHA.
FHA lending also allows you to get your entire down payment from a relative or close friend. The person who offers you the gift needs to write a letter stating that the money is a gift and does not need to be repaid. FHA loan limits were raised so this allows first-time house buyers to borrow more depending upon which county they are purchasing a home in.
Fannie Mae Eligibility
Financing guaranteed by Fannie Mae are generally not as forgiving on their credit and down payment standards as FHA financing. That is the reason that many first-time home buyers with limited credit and down payment go with FHA loans.
Fannie Mae generally requires a minimum FICO of 620 to get a fixed-rate mortgage. If you want an adjustable-rate mortgage, you need to have a 640-credit score.
The usual minimum down payment for a Fannie Mae loan today is 5% for a fixed-rate mortgage and 10% for an adjustable-rate loan. However, if you have high enough credit, in the 680 range, you may be able to qualify for a 3% down program that is designed only for first time home buyers.
As far as debt to income, Fannie Mae is more flexible because it requires a higher credit score. As of 2023, Fannie Mae has increased DTI maximums. It may approve you for a loan if you have a DTI from 45% to 50%. The top end is only granted to people with fairly high credit scores and down payments. Fannie Mae is also very aggressive in making their financing more compatible with down-payment assistance programs.
Which Government Finance Program Should You Get?
There is no one perfect mortgage for every borrower. All of us have different financial circumstances and both of these government mortgage programs provide competitive home financing. Generally, FHA backed loans have a lower credit score requirement and a low-down payment. They are often the best choice for borrowers with the lowest credit scores. FHA does require more expensive mortgage insurance, which is a negative. But on the plus side, it allows the low credit borrower to get a low-interest rate at or below market rates. Qualifying for a home loan with bad credit and no money down is not going to happen with Fannie or FHA as they will need at least a 3% down-payment, but below-average credit scores are allowed if the applicant can check the other lending boxes.
FHA financing is also a good fit for first-time house buyers who are getting their down payment as a gift from a relative.
Fannie Mae has higher credit standards, but if you can qualify, you can have a higher debt to income ratio and still get approved. Fannie Mae also has low down payment options. It also has mortgage insurance requirements for less than 20% down loans, but it is cheaper than FHA mortgage insurance.