All You Need to Know About FHA Loans

FHA loans benefits

If you are a first-time homebuyer, you must have heard the term ‘FHA Loan’ by now. These loans come under the home mortgage category and are backed by the US Federal Housing Administration. So, how essential is an FHA loan for you, and how can you qualify for one?

Here we have rounded up a detailed guide to teach you the fundamentals of FHA loans, their different types, benefits, and limitations, so it is easier to pick which FHA loan is the ideal choice for you.

What is an FHA loan?

A Federal Housing Administration-insured mortgage is known as an FHA loan. For people who have credit challenges and whose savings are little, the FHA loan provides them with the facility of a down payment of only 3.5% with a credit score of 580 or higher. The mortgage that lenders are issuing, banks or non-bank creditors, or credit unions, the FHA insures these loans.

The FHA supports lenders in the form of protection via insurance. Because of this, the lenders comfortably provide the borrowers with favorable terms for the loan, which the borrowers otherwise wouldn’t be able to afford as for a home loan. In order to become a lender for FHA, you need to be on the FHA-approved list. FHA has specific criteria for approving the lender for such insured loans.

You can use an FHA loan to buy a new house or refinance a single-family house, two-to-four-unit multi-family homes, some typically manufactured homes, and condominiums. In certain specific cases, FHA loans can also be granted to people to construct a new home or for the renovation of an existing home.

Different Types of FHA Loans

In this table, we give you an overview of the advantages and disadvantages of different types of FHA Loans available for borrowers.

FHA Loan Category

Advantage

Disadvantage

Basic Home Mortgage 203(b)

Allows purchasing or refinancing a primary residence using a low minimum down payment.

It is not applicable for houses with $5,000+ repair costs.

203(k) Rehab Mortgage

Allows fixer-uppers financing.

Limited to $5,000 repair costs within a six months deadline. Must have a professional licensed repairs expert or company on board.

Construction Loan

Works for land financing or new home financing.

Getting the loan approved takes a lot of time and effort and has low chances of approval.

Title 1 Property Improvement Loan

This loan is ideal for home renovation projects and can supplement a 203(k) loan. Refinancing is not required to get this loan.

The loan amount is limited to $25,000 for a single-family home and $60,000 for a multi-family home.

Energy Efficient Mortgage

Works for home renovations intended to make the house more sustainable and energy-efficient.

A professional quality assessment is required to get approval for the loan. Renovations should be cost-effective.

Qualification Criteria for an FHA Loan

The HUD sets out some basic requirements that all the lenders have to fulfill. Note that the loan requirements may vary based on your lender. Here are a few fundamentals you need to take care of to qualify for an FHA loan.

A Good Credit Score

The qualification criteria for an FHA loan is to have a credit score of 500 or more. However, the down payment criteria changes for credit scores below 580. For people with a minimum of 580 or lower credit score, the minimum down payment becomes 10% of the mortgage loan. On the contrary, in a conventional mortgage loan, a FICO credit score of 620 or more is required.

Minimum Down Payment

The minimum down payment is directly dependent upon the credit score. The higher the credit score, the lesser the down payment you will have to make. A credit score above 580 means that you may be eligible to pay a down payment of up to 3.5%. However, for a credit score falling in the range of 500 to 580, the down payment will be a minimum of 10%.

Another advantage of an FHA loan is that the down payment source for an FHA loan does not need to be specific. The FHA loan requirements are not particularly stringent regarding the basis of your down payment as that of FICO. If you have a proof letter of the transaction of the down payment cheque being gifted by a relative, that immediately makes you eligible for the loan.

Debt-to-Income Ratio

It is imperative, and the debt-to-income ratio is a metric that calculates the amount of your monthly income (pre-tax) needed to fulfill the minimum debt obligations. This includes all your loans, be active, inactive, or deferred. However, a student loan is given less weightage in comparison to other loans when determining the debt-to-income ratio. For example, if your monthly minimum debt payment is $800 and you make $4,000 per month, as per calculations, your DTI ratio will be 20%.

The typical debt-to-income ratio that FHA lenders prioritize for the applicants should be below 43%.

Approval for Property

One of the most essential FHA loan requirements for a property is getting in-depth approval. A lender will need two assessments for a 203(k)-construction request. The first one is needed before the renovation and the other after the refurbishment and improvements are being made.

Mortgage Insurance

A fundamental obligation for an FHA loan is the requirement of mortgage insurance. The mortgage insurance payment is required for the first 11 years of the loan against a down payment of 10% or more. In other cases, if the down payment is below 10%, then you need to pay the insurance until the loan has been paid off or refinanced with a conventional loan (FICO or others) against a 20% down payment at the least.

The Bottom Line

Having an in-depth knowledge of the rules and regulations of FHA home loans can be challenging to manage on your own. Therefore, it is better to partner with a professional loan officer or lending expert like Elite Financial to make your first home-buying experience as smooth as possible.

Click here to connect with the loan experts at Elite Financials for further assistance. Good luck!