The FHA loan program offers many benefits, especially for first-time homebuyers or borrowers with less than perfect credit. I receive many questions about the program, how it works, and what to expect, which I’ve outlined here to help you understand the program as you explore your options.
FHA loans are government-backed loans with flexible guidelines and competitive interest rates. The FHA doesn’t underwrite or fund the loans. Instead, they guarantee the loans for FHA lenders, which is how they provide loans with low credit score and down payment requirements.
FHA loans have a reputation as a ‘first-time homebuyer’s loan’ and they are a great option if you’re buying your first home, but anyone can use it. The low credit score and down payment requirements make it more accessible than conventional loans. FHA loans also have forgiving debt-to-income ratio requirements, opening up the possibilities or borrowers with existing debts that may not qualify for a conventional loan.
The FHA loan limits in Colorado vary by county. HUD determines the maximum FHA loan limits in each county by determining the average cost of a home in the county. The maximum loan limit is 115 percent of that value. The loan limits in Colorado vary from $331,760 to $765,600 for single-family units.
The process works just like any other loan. First, you complete a loan application and give consent to pull your credit. You’ll then provide proof of your income, assets, and any other important financial information that affects the lender’s decision. Lenders use this information to provide conditional approval (if you qualify). After receiving your conditional approval and finding a property, you will provide the lender with the necessary documents to clear the conditions and close your FHA loan.
According to the FHA, borrowers need a minimum 580 credit score to make the minimum 3.5 percent down payment. Some lenders allow credit scores from 500 – 579 with a 10 percent down payment too. The credit score requirements vary by lender, as each lender can create its own requirements based on their risk tolerance.
The FHA requires a 3.5 percent down payment, but this applies to borrowers with a credit score of at least 580. If you have a credit score between 500 – 579, you need a 10 percent down payment. While 10 percent is a hefty down payment, FHA guidelines are more flexible, allowing borrowers with credit scores as low as 500 (varies by lender), while most other loan programs wouldn’t allow it.
Interest rates fluctuate on a daily basis (sometimes more than once a day). Sometimes FHA loan rates are lower than conventional loan rates and vice versa. The rate you receive depend on your qualifying factors. Focus on increasing your credit score, keeping your debt-to-income ratio down, and saving for a down payment to get the most favorable interest rate.
Anyone is eligible for an FHA loan. The program doesn’t have eligibility requirements like the VA or USDA loan has. If you prove you have at least a 580 credit score, a maximum 31 percent housing ratio, a maximum 41 percent total debt ratio, stable employment and income, and the means to manage a mortgage payment, you may be eligible for the FHA loan program.
Yes, the FHA has flexible guidelines regarding gift funds. If you have a 619 or higher credit score, you may use gift funds for 100 percent of your down payment. If you have a credit score below 619, you must provide at least 3.5 percent of the down payment from your own funds.
Government-backed loans, like the FHA loan, are assumable, but that doesn’t mean just anyone can take over your mortgage. When a buyer assumes your mortgage, they take over the mortgage as it is, including the current principal balance, interest rate, and term. Before you assume or let a buyer assume your FHA loan, talk to your lender, as not all lenders allow it and all parties must qualify for the loan before assuming it.
The FHA charges two types of mortgage insurance – upfront and annual mortgage insurance.
Upfront mortgage insurance is a fee you pay at the closing (or the seller can pay for you). It’s 1.75 percent of the loan amount, so $3,500 on a $200,000 loan.
You pay annual mortgage insurance in your mortgage payment (monthly). The FHA charges 0.85 percent of your average outstanding balance each year. The lender divides the annual amount into monthly payments, adding $100 - $200 to the average FHA loan payment.
Unlike PMI on conventional loans, FHA mortgage insurance lasts for the loan’s term - you can’t cancel it. The only way to eliminate FHA mortgage insurance is to refinance the loan into a conventional loan. If you owe more than 80 percent of the home’s value, you’d pay PMI until you pay the balance low enough for an 80 percent loan-to-value ratio.
FHA loans have a reputation of having appraisal difficulties, but that’s not the case today. Yes, FHA loans have Minimum Property Requirements that appraisers must look for, but they typically aren’t a deal-breaker. Sellers know if one appraiser found issues with the home, so will others, which makes it hard to sell the home. Most sellers will agree to fix the issues or find another solution to secure your financing.
Current FHA loan holders may qualify for an FHA streamline refinance, which allows you to refinance to lower the rate or choose a more secure term. The program is only for borrowers that have had an FHA loan for at least 210 days and have made at least 12 monthly payments on time.