Federal Housing Administration, Top Ten Facts about FHA Loans
The FHA loan is a popular option for borrowers because it allows them to buy a home with a relatively small down payment. It is also one of the most misunderstood loan products in the market. In this article we get to the bottom of how FHA mortgages work, and bust some of the common misconceptions about this flexible loan product.
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FACT 1: The FHA is NOT a mortgage lender
The Federal Housing Administration (FHA) a government agency within the U.S. Department of Housing and Urban Development, mandated to promote home ownership. Contrary to popular belief, the FHA is not a mortgage lender.
It does not make mortgage loans to home buyers. Rather, the FHA is a mortgage insurer.
It reimburses banks and other mortgage lenders for their losses in the event that their FHA-insured loan goes into default.
Because of the government guarantee, banks and other mortgage lenders are willing to lend money to borrowers who might not qualify for a traditional mortgage.
FACT 2: FHA loans are NOT just for first time buyers
The FHA loan is often touted as a mortgage for first-time buyers because of its low credit score and down payment requirements.
In truth, anyone can apply for an FHA loan, as long as the loan is for the borrower's primary residence.
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FACT 3: FHA loans typically require just a 3.5 percent down payment
While most traditional mortgages require a 20 percent down payment, the FHA requires just 3.5 percent down.
And, unlike other low or zero down payment mortgages such as those from the U.S. Department of Veterans Affairs, there are no eligibility requirements attached to the loan.
This makes the FHA mortgage one of the most lenient mortgage types available in the U.S.
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FACT 4: The cash down payment can come from any source
The down payment can come from any legitimate source.
This means that parents, siblings, employers, charitable organizations or government homebuyer programs can finance the down payment.
What's more, the seller can pay up to 6 percent of the loan amount towards the buyer's closing costs, compared to just 3 percent for conventional loans.
These concessions allow buyers with zero cash savings to fulfill their dream of homeownership.
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FACT 5: Lenders can approve FHA borrowers with poor credit scores
Not everyone will qualify for an FHA-backed loan.
Borrowers have to show that they have a steady income and can reasonably afford to repay the loan.
However, borrowers with a poor or nonexistent credit score stand a better chance of qualifying for an FHA loan than any other mortgage type.
The reason? FHA mortgage providers are expressly instructed to analyze the borrower's complete credit profile and not just isolated instances of default here and there.
Even borrowers who have suffered a catastrophic credit event, such as a bankruptcy or foreclosure, will find it easier to get an FHA mortgage than a mortgage that does not come with the government guarantee.
The wait period is typically just two or three years.
FACT 6: Some lenders set stricter standards
Because the FHA does not advance the loan, the mortgage lender can choose to apply stricter underwriting criteria than the standards set by the FHA.
"Investor overlays," as these standards are known, might include raising the minimum credit score or requiring additional time since a foreclosure, short sale or bankruptcy.
A borrower who is disqualified by one FHA-approved lender might have better luck with another.
FACT 7: FHA loans may be more expensive, or less expensive, than other types of mortgage
Since 2011, FHA interest rates have been lower than comparable conventional rates via Freddie Mac and Fannie Mae.
But it is not the rate that determines how expensive a mortgage is.
The true cost of the product depends on the loan size, the mortgage term, the down payment and the property's location.
The biggest cost of FHA-backed loan is mortgage insurance.
Borrowers taking out an FHA mortgage are required to pay mortgage insurance premiums - this is non-negotiable, unless the borrower puts down more than 20 percent.
MIPs are paid into a pot of cash that the FHA uses to compensate lenders against mortgage default without cost to the U.S. taxpayer. Ultimately,
MIPs keep the FHA scheme running.
MIPs are paid in two parts. An upfront MIP of 1.75 percent of the loan size is automatically added to the loan balance at closing.
In addition, borrowers pay an annual MIP in monthly installments along with the mortgage payment.
For most borrowers, the annual mortgage interest payment is between 0.45 and 1.35 percent, though it can be higher, depending on the property's location.
MIPs can add significantly to the cost of an FHA loan.As always, borrowers should compare offers from several different lenders - conventional as well as FHA loans - before committing to buy.
FACT 8: Homeowners "armed with knowledge" get a MIP reduction
Evidence suggests that homeowners who undertake counseling are 30 percent less likely to default.
Thus, first-time buyers who agree to attend homeownership education classes through the FHA's "Homeowner's Armed With Knowledge" (HAWK) program are granted reduced upfront and annual MIP payments.
Counseling lasts a minimum of six hours and is conducted before the buyer goes into contract.
FACT 9: There are limits on how much you can borrow
Limits vary by region, and the amounts are not as modest as you might think.
In some counties, FHA loans are available for properties priced at over $1 million.
FACT 10: FHA loans are assumable
In general, a buyer can take over the seller's FHA loan. In other words, the buyer will pick up the seller's rate, repayment period, principal balance and other terms.
Often, the terms of the seller's mortgage are more favorable than the terms the buyer would be offered if he were to take out a loan at today's rates.
When interest rates are rising, the ability to assume an existing loan may make the house more attractive to buyers and easier to sell.
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