Last week, we covered the four most popular mortgages. This week let’s get into more detail about an FHA mortgage.
FHA loans are so named because they are insured by the Federal Housing Administration (FHA). They are designed to make the American home ownership dream come true for those with lower incomes and lower credit scores than required for conventional mortgages. One consideration is that the home must be the primary residence, as it is not permitted to be an income property.
The borrower only needs to have a 500 credit score to qualify for an FHA loan (but they’d have to put 10% down). At 580, the borrower can put the minimum amount down of 3.5%. The front-end ratio, which is the percent of your gross income that the all-in housing payment represents, must be lower than 31% in most states. Note that there are limits on how high the loan amount can be too, depending on the area.
A benefit of FHA loans is that the seller, builder, or lender can pay some of the additional fees that are associated with mortgages, like closing costs.
Because the FHA is guaranteeing the loan, the borrower must pay two kinds of premiums, an Upfront Mortgage Insurance Premium (UFMIP) and Annual Mortgage Insurance Premium (MIP). These are the premiums paid to the FHA to insure your loan, like how you pay a car insurance company to insure your car. The UFMIP is equal to 1.75% of the loan amount and it can be paid up front (as the name indicates) or rolled into the loan. The FHA uses the premiums to pay the mortgages of FHA borrowers who default on their loans.
The Annual MIP amount, which is paid monthly, ranges from 0.45% to 1.05% of the loan. The more the borrower puts down, the less MIP the borrower pays. At different levels of down payment, there are different lengths of time the homeowner will have to pay MIP. If they put down less than 10%, the MIP remains for the life of the loan. These premiums are the primary downside of an FHA loan (in my opinion).
According to USA today, about 12% of all mortgages are FHA-insured. If you’ve been considering buying a home and going with an FHA loan, hopefully this article helped distill the information for you.