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FHA Loans: What You Need to Know in 2022

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The Federal Housing Administration (FHA) backs home loans with flexible borrowing guidelines for homebuyers who might not qualify for conventional loans that have more stringent requirements. FHA loans are popular with first-time buyers who may have limited savings and some credit issues, and the government backing allows many lenders to offer lower average rates than conventional mortgages.

What is an FHA loan?

An FHA loan is a mortgage made by an FHA-approved lender and insured by the Federal Housing Administration. Borrowers can purchase a home with lower credit scores and down payments than conventional guidelines allow.

FHA loans aren’t just for first-time homebuyers — you can still be approved regardless of whether you currently or have previously owned a home. And unlike many low-down-payment conventional loan programs, there are no low- to moderate-income restrictions.

What is the FHA?

The Federal Housing Administration was created in 1934 to give renters in the U.S. better lending options for buying a home. Back then, you typically needed a 50% down payment and enough income to pay the loan off in three to five years.

Over time, the FHA loan program guidelines allowed borrowers to make a down payment as low as 3.5% and pay off the loan over a 30-year term. Lenders were — and still are willing — to take the risk of making FHA loans because of the mortgage insurance premiums borrowers pay to protect them against financial losses if borrowers default.

How do FHA loans work?

FHA loans essentially work the same as other home loan programs. You’ll need to qualify based on your income, credit history, employment history and verify you have or can get a gift for the down payment and closing costs.

However, the flexibility of FHA loans may work best if:

  • Your credit score is between 500 and 619.
  • Your total debt-to-income (DTI) ratio (a measure of your total debt compared to your income) is higher than the 50% conventional DTI ratio maximum.
  • You need a loan amount at or below the current FHA loan limit for the county in which you’re buying.
  • You want to buy and live in a two-to-four unit, multifamily home with a 3.5% down payment, and use rental income to help you qualify.
  • You want to buy a fixer-upper home with a 3.5% down payment and roll the renovation costs into your loan amount.
  • You need to qualify for a mortgage with the income of a co-borrower who won’t live in the home.
  • You’ve had a bankruptcy in the past two or more years.
  • You’ve had a foreclosure in the past three or more years.
  • You can’t qualify for a conventional loan.

Understanding FHA loan mortgage insurance

FHA borrowers have to pay two types of FHA mortgage insurance to protect FHA-approved lenders from the financial risk of defaults. The first is an upfront mortgage insurance premium (UFMIP) of 1.75% of your loan amount, which is charged at closing and typically added to your mortgage balance.

The second is an ongoing annual mortgage insurance premium (MIP) that ranges from 0.45% to 1.05%, depending on your down payment and loan term. It’s charged annually, divided by 12 and then added to your monthly payment. Here’s an example of how much FHA mortgage insurance you’d pay on a $300,000 loan amount, assuming you make a 3.5% down payment with an 0.85% annual MIP charge.

Upfront MIP CALCULATION:

  • Convert 1.75% to the decimal (0.0175)
  • Multiply by the loan amount: 0.0175% x $300,000 = $5,250 FHA UFMIP charge added to your loan amount

Annual MIP CALCULATION:

  • Convert 0.85% to a decimal (0.0085)
  • Multiply by the loan amount 0.0085% x $300,000 = $2,550
  • $2,550 divided by 12 = $212.50 monthly MIP charge added to your monthly payment

There are some important differences between FHA mortgage insurance and conventional private mortgage insurance (PMI):

You’ll typically pay FHA MIP for the life of your loan. This is true if you make a minimum FHA 3.5% down payment. However, if you can make at least a 10% down payment, MIP drops off after 11 years. You can get rid of conventional PMI once you can prove you have 20% equity.

Your credit score doesn’t impact your premium. Unlike PMI, FHA mortgage insurance premiums are the same regardless of your credit score, which could result in a lower monthly payment than a conventional loan.

You’re more likely to end up with a higher-priced mortgage loan (HPML). Because you pay two types of FHA mortgage insurance, you may find your APR triggers “higher-priced mortgage loan” restrictions. You may need to jump through extra qualifying hoops to qualify for an HPML FHA loan.

Different types of FHA loans

The FHA offers a variety of different loan programs besides purchase loans to meet the needs of homebuyers and homeowners throughout their financial lives.

Type of FHA loanSpecial features
FHA streamline refinanceBorrowers with a current FHA loan may be eligible for the FHA streamline refinance program, which allows you to take out a new FHA loan with better terms and skip income documentation and a home appraisal
FHA cash-out refinanceBorrowers with scores as low as 500 may be able to borrow up to 80% of their home's value through a cash-out refinance
FHA rate-and-term refinanceYou can refinance an FHA or non-FHA loan up to 97.75% of your home's value with low credit scores and add the closing costs to the loan amount
FHA 203(k) loanBorrowers can purchase or refinance a home and roll the renovation costs into one loan with the FHA 203(k) rehab loan program
Energy-efficient mortgage (EEM)Homeowners can add the cost of energy-saving upgrades to the balance of a purchase or refinance loan with an FHA energy-efficient mortgage
Home equity conversion mortgage (HECM)More commonly known as a reverse mortgage, the HECM loan gives borrowers aged 62 or older multiple options to access their equity and avoid a monthly payment
FHA GPM/GEM loanThis program gives qualified borrowers the option to choose a loan with lower initial payments that increase as their income rises (called a graduated-payment mortgage or GPM), or the choice to increase principal payments and pay off the loan faster (called a growing equity mortgage or GEM)

Conventional loans vs. FHA loans

Loan featureFHA mortgageConventional mortgage
Minimum down payment
  • 3.5% with a 580 credit score
  • 3% 
Minimum credit score
  • 500-579 with a 10% down payment
  • 620
DTI ratio
  • 43% with exceptions above 50%
  • 45% with exceptions up to 50%
Maximum loan limits
  • Lower loan maximums than conventional loans
  • Higher loan maximums than FHA loan limits
Appraisal requirement
  • Required on all purchase loans
  • Waived on streamline refinance programs
  • Can be waived on eligible purchases and refinance programs  
Mortgage insurance
  • 1.75% UFMIP
  • 0.45% to 1.05% annual MIP
  • Required regardless of down payment
  • Same premiums regardless of credit score
  • Can't cancel MIP with 3.5% minimum down payment; can be canceled after 11 years with 10% down
  • Typically no upfront mortgage insurance
  • 0.15% to 2.5% annual PMI paid monthly
  • Waived with a 20% down payment
  • The lower the credit score, the higher the MI premium
  • Can request PMI cancellation after reaching 20% equity

FHA loan requirements

Loans backed by the Federal Housing Administration (FHA) give low-credit-score borrowers a low-down-payment home loan option with more lenient qualifying guidelines. Before you fill out an FHA loan application, learn about the key FHA loan requirements to help you decide if an FHA loan is right for you.

FHA credit score

You’ll need at least a 580 credit score if you’re making a minimum down payment of 3.5%. Borrowers with a 10% down payment may be eligible for approval with a 500 credit score.

FHA CAIVRS

The Credit Alert Verification Reporting System (CAIVRS) tracks whether people are behind on government-backed loans including:

  • Federal student loans
  • Small Business Administration (SBA) loans
  • U.S. Department of Veterans Affairs (VA) loans
  • U.S. Department of Agriculture (USDA) loans

If you’ve paid your debt in full or you’re under a repayment plan approved by the agency that you owe, you may be eligible to apply for an FHA loan. Otherwise, you’ll have to wait at least three years after the federal government pays your lender’s insurance claim.

FHA foreclosure and bankruptcy waiting periods

If you lost a home to foreclosure, you’ll need to wait three years before you can take out an FHA loan. With a Chapter 7 bankruptcy you can apply for an FHA loan within two years of your discharge date. This waiting period is much shorter than conventional loans, which require a seven-year wait after a foreclosure or four years after a bankruptcy.

FHA DTI ratio

Your DTI ratio is the percentage of your gross monthly income used to make your monthly debt payments. FHA lenders require a maximum 31% front-end DTI ratio, which focuses on housing payments. Your back-end DTI ratio, which encompasses all of your debt payments — including housing — shouldn’t exceed 43% in most cases.

FHA down payment

The minimum FHA down payment is 3.5% as long as you have at least a 580 credit score. You’ll need 10% down for a credit score between 500 and 579. The down payment funds can come from family members, close friends, employers or charitable organizations.

FHA cash reserves

Also called mortgage reserves, cash reserves are extra funds you have on hand after considering your down payment and closing costs or other compensating factors. Lenders look at them as proof of how many mortgage payments you could make in a financial crunch, and they may help you qualify for a loan with a high DTI ratio.

FHA income and employment requirements

You’ll need to prove stable income and employment for the past two years. Frequent job changes or gaps in employment require extra explanation and documentation. There are no income limits or homebuyer education requirements.

FHA occupancy requirements

You must live in a one- to four-unit home as your primary residence for at least a year after buying it. One added benefit of FHA loans: You can purchase a multifamily home with a 3.5% down payment and use the rental income from the other units to qualify, as long as you live in one of the units for 12 months.

FHA property standards

FHA loan requirements also set strict minimum property standards for safety and living conditions. With FHA financing, you can buy a one- to four-unit home in a subdivision, an FHA-approved condominium project, a cooperative unit or a manufactured home attached permanently to a foundation.

FHA appraisals

An FHA appraisal is required regardless of your down payment amount for an FHA loan, and the appraisal guidelines are more stringent than guidelines for conventional loans.

FHA amendatory clause

The FHA amendatory clause gives homebuyers the right to back out of a purchase contract if the appraised value doesn’t match the sales price. Also called an “Escape Clause,” it must be signed before signing the purchase contract on an FHA loan.

FHA loan limits

The 2022 maximum FHA loan limit for most parts of the U.S. is $420,680 for a single-family home. Buyers in high-cost areas of the country may be able to borrow up to $970,800 for a single-family home. Limits are higher for multifamily homes and special exception areas, including Alaska, Hawaii, Guam and the U.S. Virgin Islands.

The table below shows the FHA loan limits in the regular, high-cost and special exception areas for one- to four-unit homes.

Number of unitsFHA standard loan limitsFHA high-cost area and special exception loan limits
One unit$420,680$970,800
Two units$538,650$1,243,050
Three units$651,050$1,502,475
Four units$809,150$1,867,275

How to apply for an FHA loan

Here are six basic steps to follow to apply for an FHA loan:

  1. Shop several FHA-approved lenders. Not all lenders offer the same types of FHA loans. Compare the rates and costs of at least three to five lenders, including mortgage brokers, mortgage banks or your local bank. Or you can input your basic financial information into an online rate comparison tool and let lenders call you with their best offers.
  2. Complete an FHA loan application. If you’re buying a home, you’ll need basic information handy about your income, monthly debts and down payment funds as you fill out the application.
  3. Give the lender permission to verify your credit scores. This is usually part of the online application process and is required to verify you meet the minimum FHA credit score requirement.
  4. Provide two years of employment and income history. Collect pay stubs for the last 30 days and the last two years of W-2s or federal tax returns, along with employer contact information. Check with your loan officer if you’re applying for a special FHA program, like a reverse mortgage or FHA streamline refinance — you won’t need as much paperwork.
  5. Document your down payment source. Lenders typically review two months’ worth of bank statements or a letter of explanation of where the down payment and closing cost funds are coming from if you’re buying a home. Some lenders may want to see that you have a few months’ worth of cash reserves in the bank if your credit scores are below 580 or your DTI ratio is high.
  6. Explain and document any defaulted federal debt. FHA-approved lenders use the CAIVRS system to check that you haven’t defaulted on student loans or other federal debts.

Pros and cons of FHA loans

Before you fill out a loan application, here’s a quick recap of FHA loan pros and cons.

FHA loan prosFHA loan cons
You may qualify with a lower credit score than conventional loansYou’ll pay higher mortgage insurance costs
You may qualify with more debt than a conventional loanYou won’t have as much borrowing power due to FHA loan limits
You can purchase a two- to four-unit home with a down payment as low as 3.5%You can’t use an FHA loan to finance a second home or investment property
You don’t have to be a first-time homebuyer to qualifyYou’ll pay mortgage insurance for the life of the loan in most cases
You’ll have several loan programs to choose from with lenient qualifying requirementsYou pay mortgage insurance regardless of how much equity you have
You won’t be subject to any income maximumsYou’re more likely to end up with a higher-priced mortgage loan

FHA loan FAQs

Who can qualify for an FHA loan?

Any borrower who meets FHA loan requirements can qualify for an FHA loan as long as they apply through an FHA-approved lender.

How much is PMI on an FHA loan?

PMI doesn’t apply to FHA loans. Instead, borrowers pay a lump-sum, upfront mortgage insurance premium (UFMIP) charge equal to 1.75% of your loan amount and an annual mortgage insurance premium (MIP) ranging between 0.45% to 1.05% of the loan amount, divided by 12 and added to the monthly payment.

What are the advantages of an FHA loan?

Some of the biggest benefits of an FHA loan include qualifying with a credit score as low as 500, a low down payment, a DTI ratio above 50% and the flexibility to add a co-borrower’s income to get approved, even if the person won’t live in the home.

What are the downsides of an FHA loan?

A major drawback of FHA loans is the high cost of FHA mortgage insurance, which must be paid for the life of the loan if you make the minimum 3.5% down payment. FHA county loan limits also curtail your buying power, since they’re set at 35% below conforming conventional loan limits in most counties across the U.S.

Can you get an FHA loan with student loan debt?

Yes. Recent changes to FHA guidelines make it even easier for aspiring homeowners to apply for a mortgage with student loan debt and qualify based on the actual student loan payment. Prior to the change which went into effect in the summer of 2021, FHA-approved lenders were required to calculate 1% of the student loan balance to qualify, regardless of whether the actual payment was lower.

Can you get preapproved for an FHA loan?

Yes. FHA-approved lenders can preapprove you for an FHA loan after reviewing your income, down payment cash, credit score and credit payment history.

Is it easy to get an FHA loan?

In most cases, yes, it’s easy to get an FHA loan compared to a conventional loan. The FHA loan program’s flexible guidelines provide borrowers who have less-than-perfect credit and little savings with a shot at homeownership, so they can build wealth and a foundation of stability for their families.

 

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