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8 Things Buyers Should Know About FHA Home Loans

Borrowers have plenty of options when it comes to the type of mortgage they can take out to finance a home purchase. Among them all, home loans backed by the U.S. Federal Housing Administration (FHA) are often quite popular since their requirements tend to be less stringent compared to conventional mortgages.

But before you take out an FHA loan, it’s important to get acquainted with them first. Here are a few things you should know about FHA mortgages before applying for one.

1. They’re Available to Everyone

FHA loans are not just for first-time homebuyers or people who can’t come up with a 20% down payment. They’re available for anyone who wants to take advantage of them. Even those who have bought and sold many times in the past or make a decent income may be eligible for an FHA-backed home loan, as long as they meet the requirements needed to get approved for this type of mortgage.

FHA home loans are simply mortgages that are guaranteed and insured by the U.S. Federal Housing Administration. Such insurance gives lenders the assurance that the loans they provide will be paid back if borrowers default on them.

2. Minimum Down Payment Requirement is 3.5%

While conventional loans require a minimum down payment of 5% of the purchase price, FHA loans require at least 3.5% in most cases. The option to pay a smaller down payment makes FHA loans very attractive to many borrowers who may otherwise struggle to come up with a sizeable lump sum.

That said, there may be some cases where a slightly higher down payment amount may be required based on credit history and the type of home being purchased.

3. Your Lender Needs to Be FHA-Approved

Not all mortgage lenders are able to provide FHA-backed mortgages. The FHA doesn’t actually lend money, but only insures the loans. Lenders are the ones loaning out funds to borrowers, so they must be FHA-approved before they are able to offer these types of mortgages.

If you’re interested in an FHA loan to finance a home purchase, it’s important to seek out lenders who are approved to provide loans insured by this federal entity.

4. The Property Must Meet Minimum Standards

The FHA will only insure mortgages for properties that meet specific criteria. An inspection will be done to ensure that properties meet certain standards, including the following:

The home should be deemed safe for habitation;
The home should be secure;
The home should be absent of any physical conditions and flaws that could compromise the structure.
Many conditions with a property can make it ineligible for FHA loan qualification, such as:

Evidence of lead-based paint, asbestos, mold, or other hazard;
Severely cracked windows
Missing handrails
Leaky roof
Outdated electrical wiring
No running water
Warped floors
Inadequate heating and cooling system
This list is by no means exhaustive. There are plenty of things that can deem a home ineligible for FHA loan approval. Essentially, if a home is not considered to be safe, secure, or structurally sound, it will likely not be FHA-approved.

5. Two Mortgage Insurance Fees Are Required

Borrowers who put less than 20% down on a conventional mortgage have to pay private mortgage insurance (PMI) premiums. This insurance is meant to protect lenders in case borrowers default on their mortgage payments.

With FHA-backed loans, there are two mortgage insurance premiums that have to be paid. The first premium is paid when the loan is taken out, and costs 1.75% of the loan amount, no matter how much of a down payment is made.

The second premium is paid on a monthly basis. The amount paid depends on the loan amount, length of the mortgage, and the borrower’s loan-to-value ratio (LTV). Generally speaking, the MIP costs anywhere between 0.45% to 0.85% of the base loan amount.

6. You Can Still Qualify With a Low Credit Score

One of the most attractive features of FHA loans is that they do not require stellar credit to be approved for. Borrowers with a score of 580 and higher can be approved with just 3.5% down.

According to credit reporting bureau Experian, about 30% of Americans have a credit score under 601, which is considered the threshold between fair and bad credit. For these people, securing a conventional mortgage would prove to be very difficult, if not impossible.

FHA loans have lower credit requirements compared to traditional loan types. Even those with a score of 500 may even be approved for an FHA home loan, albeit with a higher down payment amount (typically 10%).

Having said that, applying with a higher credit score will increase the odds of loan approval, which is why it’s recommended that borrowers take steps to improve their scores before they apply for a mortgage, regardless of type.

7. You Might Not Have to Pay For Closing Costs

Closing costs often need to be paid upfront by buyers when a real estate deal closes. These are additional costs that buyers need to budget for when purchasing a home. However, they may not always have to worry about paying closing costs up front with an FHA loan.

Oftentimes a large proportion of closing costs are covered by sellers, lenders, and builders. Even if closing costs are not covered, buyers can still take advantage of having them rolled into their mortgages so they don’t have to come up with the funds in one lump sum. Borrowers should note, however, that lenders who cover part of the closing costs may charge a higher interest rate in exchange.

8. There’s a Limit to How Much You Can Borrow

FHA loan limits have recently changed and now range from $294,515 in areas with lower-priced homes to $679,650 in higher-cost areas.

The Bottom Line

FHA loans certainly offer a number of advantages to borrowers, especially those with a less-than-perfect credit score who aren’t able to come up with the minimum down payment amount required for conventional loans.

But as with any other type of mortgage, it’s recommended that you do your homework and understand why home loan types are out there to see which one is best suited for you. Consult with your mortgage specialist to determine whether or not an FHA loan is the right option for your financial situation.