Federal Housing Administration (FHA) Loan
What is an FHA Loan?
Put simply, an FHA loan is a mortgage that is insured by the Federal Housing Administration. It is designed with low-to-moderate-income borrowers in mind. Therefore, FHA loans require a lower minimum down payment and lower credit scores than most conventional loans.
As of 2020, with an FHA loan you can borrow as much as 96.5% of the value of a home. This means that you will need to make a down payment of only 3.5%.
Your credit score needs to be at least 580 in order to qualify. If your score falls between 500 and 579, you may still be able to qualify but you will have to make a down payment of at least 10%. In addition, your down payment can come from a financial gift from a family member, savings, or a grant for down-payment assistance.
It is because of these features that FHA loans are very popular with first-time homebuyers.
Types of Mortgage Insurance
Mortgage insurance is something that is required on most loans when borrowrs put down less that 20%. There are 2 types of mortgage insurance that are required on all FHA loans:
- Upfront mortgage insurance: This is 1.75% of the loan amount and it is paid when the borrower gets the loan. The premium can be rolled into the financed loan amount.
- Annual mortgage insurance: This is 0.45% to 1.05% depending on the loan term which can either be 15 years or 30 years. This premium is divided by 12 and then paid monthly.
There is no way to cancel your mortgage insurance unless you refinance into a non-FHA loan or sell your home. These loans are popular with first-time homebuyers and those with low to moderate incomes. A repeat buyer can also get an FHA loan, as long as the home they are buying is their primary residence.
Where Does Your Loan Come From?
This is a good question because it’s important to understand that the Federal Housing Administration isn’t the entity lending you the money for your mortgage. Rather, you will get a loan from a lender that is approved by the FHA, such as a bank. The FHA instead guarantees the loan and that is why some people refer to it as an FHA insured loan.
You pay for this FHA guarantee by paying mortgage insurance each month. This is factored into your monthly payments. This means that your lender takes less risk because if you default on your loan payments the FHA will pay a claim to the lender.
Types of FHA Loans
In addition to a traditional first mortgage, the FHA also offers other types of loan programs. Some of these include:
- Home Equity Conversion Mortgage (HECM)
- FHA’s Energy Efficient Mortgage program
- FHA 203(k) improvement loan
- Section 245(a) loan
A traditional mortgage is a mortgage used to finance a primary residence. An energy efficient mortgage program is a mortgage that includes extra funds to pay for energy-efficient home improvements which are intended to lower your monthly utility bills. The 203(k) program includes extra funds to pay for energy-efficient home improvements intended to lower utility bills. And finally, the Section 245(a) loan is a program with Graduated Payment Mortgage, or GPM. This program has lower initial monthly payments that gradually increase. It also has a Growing Equity Mortgage, or GEM where scheduled increases in monthly principal payments which result in shorter loan terms.