Renting versus buying is always a difficult choice. Being approved for a mortgage can be even harder. If you choose to buy a house, congratulations, that’s bad.
If you are like most Americans, this transaction represents the largest investment you make in your life. It is also likely that you will finance the purchase with a mortgage loan. But there are many types of mortgages, most of which are not suitable for your situation.
How do you know which type of loan is suitable for you? The first step is to learn more about common types of loans.
This post explains everything you need to know about the FHA mortgage loan, a popular alternative to conventional mortgages. There are many different subtypes of FHA loans, with different limitations and suitability.
Also read: mortgage costs that you do not have to pay
What is an mortgage loan?
FHA loans are provided by private lenders, including credit unions and traditional banks. The loans are insured by the Federal Housing Administration and are intended for owner-occupied properties, not rental properties or holiday homes.
Contrary to popular belief, FHA loans do not come directly from the federal government. However, if a borrower defaults on an FHA loan, the federal housing police protects the policyholder against financial losses.
The FHA has insured more than 40 million loans for residential real estate since 1934. Thanks to the low down payment requirements (only 3, 5% of the purchase price) and loose acceptance standards for borrowers with defective credit (it is possible to qualify with a sub-fund). 600 FICO score), the program is popular with starting home buyers, people with limited personal savings and borrowers with poor credit scores.
FHA loans have some notable disadvantages, including expensive mortgage insurance such as private mortgage insurance or mortgage payment protection plans. FHA loans also have selling price restrictions that buyers can encounter in expensive markets.
Types of loans
FHA mortgage loans come in different flavors, depending on your age, assets, income and current home assets (if any).
- Purchase loan with fixed interest . Also known as a mortgage loan of 203b, this is the most popular type of FHA loan. The conditions can vary, but 15 and 30 years are the most common. The interest rates are usually lower than comparable conventional mortgages. 203b mortgage loans can be used for single to four-family homes.
- Purchase loan with adjustable speed (ARM) . Under the Section 251 Adjustable Rate Mortgage Program, the FHA insures ARMs whose interest rates can rise by no more than one percentage point per year, and no more than five percentage points over the entire term. Borrowers receive an impending interest rate increase at least 25 days prior to the increase.
- Condominium loans . Known as Section 234c loans, FHA-insured condominium loans are 30-year fixed-income products that finance the purchase of individual condominium units within developments larger than four units. There is no strict occupancy requirement, so borrowers can use FHA-supported condo loans to earn rental income. With a certain development, however, at least 80% of the FHA-insured loans must be provided to the residents of the owner.
- Secure Refinance Loan . FHA Secure Refinance loans are designed to help borrowers with conventional mortgage loans refinance fixed-rate mortgages with FHA backup. Delay is not necessarily disqualifying, but it must be due to higher monthly payments on a conventional ARM. Non-delinquent borrowers can refinance any type of conventional loan. Standard qualification requirements apply, including a fixed income, acceptable creditworthiness, and reasonable debt / income ratios.
- Home Equity Conversion Mortgages (HECM or reverse mortgage) . Known colloquially as a reverse mortgage, a HECM allows elderly people aged 62 or over to drain their equity and repay the rest of their existing mortgages without paying or paying away their monthly mortgage payments to go. For seniors with limited savings and fixed incomes, HECMs are excellent sources of tax-free cash, although they have significant legal and financial implications for homeowners and their heirs.
- Graduated payment loan . Known as Section 245 loans, graduate payment loans are intended for residents who expect their income to grow substantially in the medium term – for example, aspiring professionals or engineers in the later training phases. The monthly payments of graduated payment loans can increase over the course of 5 or 10 years, after which they remain constant for the remaining term. Annual increases range from 2, 5% to 7, 5% on 5-year plans and 2% to 3% on 10-year plans.
- Loan in growing capital – division 245a . The Growing Equity Loan program is similar to the graduated payment loan program, except that it is more versatile: they can be applied to purchases of one to four-family homes, apartments, shares in cooperative housing and homes intended for renovation or renovation . rehabilitation. Monthly payments are subject to annual increases from 1% to 5%, and loan conditions cannot exceed 22 years.
What you must qualify
During the FHA loan application process, you must provide your lender with:
- Identification issued by the government, such as a driver’s license, passport or military ID
- Pay stubs (or copies) for at least 30 days prior
- Income statements, such as W-2 forms and 1099 forms, for the most recent two tax years
- Bank and investment account statements (or copies) for the most recent two months
If you are self-employed or have a business, you must also state the following:
- A profit and loss account for the current tax year, up to the current date
- Your two most recent tax returns, including all schedules
Closing the costs
Like most mortgage loans, FHA loans are provided with different closing costs. Expenditure can vary depending on lender, geographic location, market conditions and down payment. You can expect to pay some or all of the following closing costs on your FHA loan:
- Mortgage insurance: FHA loans require a premium at the start of the insurance equal to 1.75% of the amount financed – for example, $ 3500 on a $ 200,000 loan. Ongoing premiums for private mortgage insurance (PMI), which are required for a loan-to-value ratio (LTV) of 78%, are not included in this item.
- Prepaid property tax : in most cases, you must pay the property tax that you incur between the closing and your next tax due. Depending on the value of your home, local tax rates, closing date, this can save you hundreds or thousands of dollars.
- Prepaid Hazard insurance : this covers your first-year premiums for homeowners, which can range from a few hundred to a few thousand dollars. It is usually paid outside the closing, but you still have to include this in your budget.
- Property survey : Property surveys can vary in size and completeness. A mortgage study simply compares the current description of the property with previously included descriptions and identifies possible inaccuracies. A site investigation includes a thorough on-site inspection that accurately locates buildings, easements and previous investigation monuments. A boundary exploration is more thorough: they indicate the exact angles and boundaries of the object, as well as evidence of infringement or undesirable use. Survey costs vary based on the detail level and size of the accommodation, but many cost less than $ 500. Detailed border overviews can exceed $ 5,000 – although border testing is not necessary for most transactions.
- Property assessment : the assessment of your home by a lender verifies whether the home is worth what the seller asks. This reduces the lender’s risk in the event of exclusion. Appraisals are usually mandatory and often cost less than $ 500.
- House inspection : a house inspection comprises the main structure of the house and any habitable outbuildings. Although it is not a binding guarantee on the condition of the house, the inspection can identify potential security risks or elements that need to be repaired. Inspections are usually not required by lenders, but they are highly recommended, especially for older homes. Expect to pay $ 200 to $ 500 for your inspection.
- Title Search : This essential step verifies the ownership chain and ownership of your property for the entire duration of its existence, and ensures that the seller has the right to sell the property to you. Expect to pay anywhere from $ 100 to $ 400.
- Title Insurance : Title insurance covers the costs of repairing problems (such as latent retention rights and covenants) discovered in the search for titles and offers continuous protection against claims on the property. Title insurance costs vary from state to state, but $ 1,000 is a good rule of thumb.
- Recording and transfer : every home sale must be registered with the jurisdiction in which the property is located, usually the city or county. In most cases, transfer stamps (costs) are also required. Depending on the jurisdiction and the value of the property, you expect to pay several hundred dollars for these items.
- Flood Determinations and Environmental Assessments : To place the house under the current flood areas and to determine whether a flood insurance is necessary, a flood assessment (and in some cases a continuous flood monitoring) is required. These items cost less than $ 100 on closing, although flood insurance can cost more on a continuous basis. Other types of environmental assessment are required in certain regions, such as fire hazard assessments in California.
- Origination costs : the origination fee is often used as a collection point to bundle various closing costs, such as courier costs, document costs, escrow costs, lawyers’ fees and more. They can amount to more than 1% of the purchase price, which increases your cash at the close. If you do not know clearly what is included in your origination costs, ask your lender to explain each specified contribution. Don’t be shy to challenge them on individual points.
The law allows the seller to pay up to 6% of the selling price before closing. That is usually more than sufficient to cover the closing costs. In buyers’ markets, motivated sellers who are willing to kick thousands of dollars toward closing costs have made it easier to complete their transactions, but the practice is much less common in the seller’s markets.
Main differences between FHA and conventional mortgages
- Credit requirements are relaxed . FHA loans are insured by the federal government. This reduces the financial risk of lenders and enables them to freely subscribe to FHA loans to consumers with a subordinate credit – people who probably don’t qualify for conventional mortgages that are not supported by the US government. According to the mortgage reports, the FHA insures 96, 5% (3, 5% down) mortgages for buyers with FICO scores as low as 580, and 90% (10% down) mortgages for buyers with FICO scores as low as 500. It is difficult for borrowers with FICO scores below 680 to secure conventional mortgages with favorable conditions.
- The purchase price is subject to limitations . Unlike conventional mortgages, which can be issued in any amount (although they are known as “non-compliant” or jumbo mortgages and subject to certain limitations of more than $ 417,000 in loan value), FHA-insured loans are subject to maximum value limit values that differ per region. Local limits are found by multiplying the median selling price of the jurisdiction (usually province) by 1, 15 (115%). In a metropolitan statistical area (MSA) determined by the census, which often includes more than one province, the local FHA limit is 1, 15 times the median selling price in the most expensive province. For FHA-supported purchase loans in the continental United States, local limits cannot be lower than $ 271,050 or higher than $ 625,000. That upper limit is bad news for buyers in very expensive provinces, such as San Francisco, where the median price of a single-family home compared to the end of 2016 is north of $ 1, 1 million. In Alaska, Hawaii and certain overseas possessions in the US, the upper limit is 150% greater than the US limit, or $ 938,250. For HECMs, the upper limit is $ 625,000 anywhere in the continental US and $ 938,250 in the non-continental exception jurisdictions. Use HUD’s FHA Mortgage Limits calculator to find your local limits.
- The down payment is usually smaller . One of the biggest selling points of FHA loans is the promise of a low down payment – only 3, 5% for borrowers with FICO scores of 580 or better. Most conventional mortgage loans require down payments of at least 10% of the purchase price. It is possible to find so-called Conventional 97 loans, which fund 97% of the purchase price down by only 3%, but many lenders avoid this and they can get other strings.
- Mortgage insurance is Pricier . One of the biggest disadvantages of FHA loans is the mortgage insurance obligation. All FHA loans have a mortgage insurance premium of 1.75% of the amount financed, regardless of the size of the loan, the selling price, the loan period or the down payment. In the future, borrowers who have fallen by less than 10% will have to pay mortgage insurance premiums for the entire duration of the loan, or until it is fully paid off. Borrowers who have spent more than 10% must pay at least 11 years of mortgage insurance premiums. The premiums range from 0, 80% to 1, 05% for loans with terms longer than 15 years and from 0, 45% to 0, 90% for loans with terms shorter or equal to 15 years, depending on the amount financed and the initial LTV. Conventional mortgages, on the other hand, do not require premiums in advance. If premiums are offered in advance, they usually replace monthly premiums at the borrower’s choice. In addition, conventional mortgages with initial LTVs of more than 20% do not require any mortgage insurance at all and mortgage insurance premiums automatically stop as soon as LTVs reach 78%.
- The permitted debt-to-income ratio (DTI) is higher . The ratio between debts and income measures the ratio of the borrower’s debt (revolving and payment) to the borrower’s income (gross). The FHA insures mortgages with higher DTI values (up to 43% and sometimes higher) than most lenders accept on conventional mortgages (usually no more than 36%).
- The permitted housing ratio is slightly higher . The housing ratio is the ratio between the borrower’s total monthly mortgage payment (including risk insurance, taxes, HOA costs, etc.) for the borrower’s gross monthly income. The FHA insures loans with housing ratios up to 31%. Conventional mortgage loans are sometimes unpredictable above 28%.
- No penalties for early payment or early payment . The Dodd-Frank Wall Street Reform and Consumer Protection Act prohibits most fines for early repayment on residential mortgages issued after January 10, 2014. However, many conventional mortgages that were created before that date do have prepayment penalties. Fines for early payment may amount to 3% or 4% of the principal amount of the loan, depending on when the loan was paid off. Lenders have long been prohibited from charging early repayment penalties on FHA loans, so this is not a concern for FHA borrowers.
- Sellers can pay a larger part of the closing costs . According to FHA rules, sellers can pay closing costs up to 6% of the selling price – usually more than enough to cover the costs that are paid on closing. Conventional mortgages cover seller paids at 3% of the selling price.
- Loans can be assumed by qualified buyers . FHA-insured loans are contractable, meaning they can be transferred from sellers to buyers with little or no change in rates and conditions. However, the hiring process is not as simple as throwing the keys at the buyer. The FHA must give express permission for each assumption, and buyers are subject to thorough credit and income checks. However, conventional mortgages are not generally acceptable, so this is a big advantage for motivated sellers and buyers.
- Interest rates are often lower . Although every lender is different, FHA loans generally have a lower interest rate than conventional mortgages. Higher and longer-term mortgage insurance premiums can, however, partially or fully compensate for the savings that result.
Whether you are on your way to being the first occupant of a new house, turning a poor fixer into the eternal home of your dreams, or hooking up a cozy apartment in an emerging urban neighborhood, chances are there will be a FHA loan program designed for you.
However, it is not guaranteed that an FHA-insured loan is the best option for your needs.
If you can pay a large down payment or live in an expensive housing market, a conventional mortgage may be the better financial choice. If you are a military veteran, the VA loan program can lower your homeowner’s costs better than any FHA loan.
Buying a house is a big problem. Therefore, do not hesitate to ask a reliable financial expert for advice when in doubt.
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