This week, consumers that were thinking about purchasing a home with the help of a Federal Housing Authority (FHA) loan may have felt a little whiplash, as the Department of Housing and Urban Development (HUD) first announced that they’d lower the FHA’s mortgage insurance premiums starting late January 2017, but then inexplicably reversed their decision.
But homebuyers have no need to fear, as FHA loans are still one of the best options out there for people that want to get affordable mortgages with little money down or less-than-perfect credit. The Federal Housing Administration (FHA) was established in 1934 as a government agency designed to help more Americans achieve home ownership. They do this by providing insurance on mortgage loans made by other lenders, thereby easing the risk and allowing a wider range of people to qualify.
The FHA officially merged with the Department of Housing and Urban Development's Office of Housing (HUD) in 1965, but it maintains its purpose in allowing hundreds of thousands of borrowers to buy a home or refinance their existing home. It does this by offering the benefit of great low rates, low down payments, reduced closing costs, and flexible qualifications.
If you’re thinking of buying a home this year, here are 10 quick facts about FHA loans you should know:
1. The FHA allows less-than- perfect credit scores.
If your credit score is below average, you may face rejection when you apply for a conventional home loan. But FHA loans are a great option for potential homeowners with substandard credit. In fact, most borrowers just need only 580 credit score or higher to qualify for a loan.
2. How low can you go?
While borrowers with credit scores below 500 are typically ineligible for FHA loans, believe it or not, the FHA may still allow certain applicants to qualify under special conditions. Those with nontraditional credit histories, insufficient credit, or even bankruptcies may actually qualify for an FHA loan with a score under 500 if they have other redeeming circumstances.
3. FHA’s minimum down payment is 3.5%.
One of the greatest benefits of an FHA loan is that you don't have to put 20% or even 10% down for a down payment on a home purchase! In fact, FHA has regularly offered home loans with only 3.5% down payments, which makes it far easier for the average person to buy a home since that comes to only $7,500 for a $250,000 home purchase.
4. Borrowers can get down payments from a broader range of sources.
With conventional loans, funds used for a down payment must come from income or savings and been in the bank for a certain period. But FHA loans offer greater flexibility in this regard, as borrowers can use gifts from family members or grants from government down-payment assistance programs to put down on their purchase, helping even more people access the dream of home ownership.
5. More options for paying closing costs
Like down payment funds, conventional lenders carefully restrict the source of money used for closing costs. But when applying for an FHA loan, borrowers can ask home sellers, builders and lenders to pay some of the buyer's closing costs. These costs include the appraisal, credit report, or title and escrow fees, as well as other expenses. This gives the buyer even more options to reduce the total cash they need to bring in to close.
6. What kind of properties can you purchase with FHA loans?
FHA loans allow borrowers to purchase single family homes, but also condominiums, townhomes, half-plexes, duplexes, tri-plexes, and four-plexes. Even mobile and manufactured homes may be eligible. FHA loans also allow raw land and new construction in some cases.
7. You can borrow cash for repairs.
FHA loans are great for “fixer upper” properties and homes that need significant repairs before being move-in ready. In fact, the FHA offers a special rehab loan called a “streamlined” 203(k) that lends based on the projected value of the home after the repairs are done, and grants the borrower the cash needed (up to $35,000 in most cases) to make those fixes when the loan closes.
8.FHA’s insurance costs are separate.
All FHA loans require two mortgage insurance premiums. The upfront premium is paid when the borrower first gets the loan (1.75% of the loan amount, i.e., $1,750 for a $100,000 loan), but it can be financed as part of the loan amount. The second insurance payment is the annual premium, which is paid monthly together with the mortgage payment.
The annual premium is based on the length of the loan, the amount borrowed and the initial LTV, or loan-to- value ratio. HUD raises and lowers the mortgage premium periodically to make sure FHA has enough in reserves to insure loan defaults. For 30-year loans with less than 5% down payments, the annual premium comes to .085% of the loan – not the 0.60% expected after HUD’s Yo-Yo on the decision to lower mortgage insurance premiums.
9. There are limits and restrictions on FHA loans
Since the FHA is not a lender but a government insurer of mortgage loans, borrowers need to get their loan through an FHA-approved lender. Since there are a wide variety of banks, lenders, and other financial institutions to choose from, all with different interest rates and terms, I recommend you speak to a licensed local mortgage broker for help. Appraisers also need to be on the FHA approved list, and there is significant scrutiny and restrictions for repairs when taking out an FHA loan. Note that FHA loans are expressly to put families into the stability that comes with permanent residence. That means you cannot use FHA to fund rental properties, investment properties, or vacation homes.
10. Just like conventional loans, there are limits tothe loan amount that FHA will fund.
The FHA calculates loan limits annually by using a value worth 115% of the median home price in each area, with a hard ceiling of $625,500. The good news is that FHA will also expand its national ceiling for high-cost areas to $636,150 in 2017, which should help a lot of homebuyers in California.
Rates are great for FHA loans, so contact me if you’d like a list of mortgage brokers that have helped my clients buy homes recently!