First-time home buyers often turn to FHA loans as a pathway to home ownership, and this is a natural choice. An FHA loan may allow a first-time buyer to get approved for a loan despite a relatively limited credit history, and can also make a mortgage loan less expensive than it would be without FHA backing.
What first-time buyers might overlook is that knowing how to get the best rate on an FHA loan could be one of the smartest financial moves they'll ever make. A few of the right decisions up front can pay off for you every month over the next 30 years as you pay off your mortgage.
What the FHA Loan Program Is – and What It Isn't
By way of background, it is important to recognize both what the FHA loan program is, and what it isn't. The FHA is a federal government agency that arranges for insurance on mortgages. That insurance protects lenders against the possibility of non-payment by borrowers, and thus gives them the confidence to make loans they otherwise would not make or for which they would otherwise charge a higher interest rate.
What the FHA is not is a lender. When you get an FHA loan, you are not getting it from the FHA itself but from private lenders who avail themselves of FHA insurance. This fact is crucial because it means that you are not limited to a one-size-fits-all choice, but rather can select from a variety of qualified lenders. This choice creates competition, and that opens up opportunities to get a better rate on your FHA loan.
How to Get the Best Rate on an FHA Loan
How can you save money on an FHA mortgage? Here are five ideas for how to get the best rate on an FHA loan:
- Get your credit in top shape. If you have any significant credit problems on your record, you may have to clear them up before you can be approved for an FHA loan. In any case, it can help you get a better rate if you work to get your credit rating as high as it can go. Even though FHA mortgage insurance provides lenders some protection, their profitability is impacted when borrowers do not pay off their loans. People with strong credit ratings are going to be viewed as better customers, and lenders will work harder to get their business.
- Save for a larger down payment. FHA mortgage insurance is funded in part by annual premiums paid by the borrower. This is a percentage amount that is added to your interest rate, and the size of the premium is determined by your loan-to-value (LTV) ratio. The bigger your down payment, the lower your LTV ratio will be, and this can result in a smaller mortgage insurance premium. For example, on loans up to $625,500, if your LTV ratio is 90 percent or less, you will pay a premium of 45 basis points for the first 11 years of the loan. If your LTV ratio is above 90 percent, you will pay 70 basis points over the full term of the loan.
- Consider a shorter mortgage. 15-year mortgage rates are generally well below 30-year rates, and shorter loans also carry smaller insurance premiums. If you can swing a steeper monthly payment, opting for a shorter loan is a great way to get a better rate.
- Shop around. Once you know how much of a down payment you can make and what length mortgage you are looking for, you can start to make some apples-to-apples comparisons among lenders to find the best rate. Remember, this is a competitive marketplace, so take advantage of that to find the lender who will offer you the best rate.
- Ask your lender about locking in a rate. When you find a lender with a competitive rate, ask about programs for locking in that rate for a period of time. Mortgage rates are exceptionally low these days, so locking in a rate may help you avoid having the market move against you while your home buying is in process.
Just keep in mind that these five steps can save you money over the entire length of your mortgage. That type of return should make it well worth the effort involved in working to get the best rate on your FHA loan.