Data from the Federal Reserve Bank of Philadelphia indicates that the popularity of FHA loans rises and falls based on economic conditions. Since the beginning of the latest housing crisis in 2007, a shift toward FHA loans was seen. While there is evidence that FHA loans might be losing market share again, the reality is that many homebuyers can benefit from the flexible requirements and lower required down payments when they know how to get an FHA loan.
As you prepare to become a homeowner, it makes sense to explore all of your options. Here's what you need to know about how to get an FHA loan.
Start with Your Credit
Any mortgage requires a credit check, and the FHA loan program is no different. In order to qualify for an FHA loan with the lowest down payment requirement, you need a credit score of at least 580. Individual lenders might have tighter requirements, but because the FHA insures the loans, it reduces the risks taken by lenders. The FHA will back loans for borrowers with scores between 500 and 579, but a higher down payment is required. For a conventional loan, you might need a credit score of at least 680 (although some lenders offer bad credit mortgages for a much higher interest rate).
If you have good credit, you will qualify for a lower mortgage rate, no matter what loan program you use. Your interest rate on your FHA loan will be determined by your credit score and other factors.
Make Your Down Payment
One of the advantages of learning how to get an FHA loan in an environment where credit is tight is that you can use a lower down payment. If you have a credit score of at least 580, you can get your loan with a 3.5 percent down payment. If your credit score is between 500 and 579, you will need a 10 percent down payment to qualify for a FHA loan. Right now, many conventional lenders are enforcing down payments between 5 percent and 15 percent for those with higher credit scores and avoiding lending to those with scores below 600.
Looser Credit Requirements
Many conventional lenders won't approve borrowers with bankruptcies or foreclosures on their credit reports within the last two or three years. FHA loan requirements aren't so fastidious. It's possible to be cleared to buy home 12 months after a foreclosure, short sale or bankruptcy. If you have credit problems in your past, you might still be cleared to purchase a home using the FHA program, as long as you have worked to improve your credit score and you have an adequate down payment.
Private Mortgage Insurance
When you get an FHA loan, you need to be willing to pay private mortgage insurance (PMI). You will be required to pay this premium directly to the FHA (the FHA is actually the insurer of the loan, not the lender) for the life of the loan. If your home increases in value, you can request an appraisal from the FHA to see if your equity has increased. As you make your loan payments over time, you will also see an increase in equity. Once you have 20 percent equity in your home, you can choose to refinance into a conventional mortgage in order to drop the PMI.
Finally, realize that your target property needs to meet certain conditions. The property has to be in good shape and be appraised by an FHA-approved appraiser. You can get a new loan only on properties that you will use as a primary residence. This doesn't mean that you can't get a duplex or a fourplex, though. You can be approved for a property containing up to four units, as long as you live in one (then you can rent out the rest). If you do try to get an FHA loan for a multi-unit property, you might have other down payment and debt-to-income ratio requirements to qualify.
Using an FHA loan to finance your home purchase can be a smart move since the credit requirements and funding requirements are easier to meet than those for conventional loans.