You want to buy a home so bad you can practically taste it. Yet you have less-than-desirable credit and not enough salted away for a down payment as you had hoped.
Truth is, it’s likely going to be difficult to qualify for a conventional mortgage loan. That’s because traditional home loans often require putting more than 5% down and having a FICO credit score in the 640 or higher range.
But you’re not licked. Fortunately, there are options you can pursue that can fulfill your dream of homeownership. One of them is an FHA loan, which is backed by the government and offered by lenders approved by the Federal Housing Administration.
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FHA Loan Pros and Cons
- You can qualify with a 580 credit score and a 3.5% down payment. (500-579 credit score requires 10% down)
- Higher debt-to-income (DTI) ratio up to 50% allowed
- Single-family homes, mobile homes, condos, and multifamily properties (1-4 units) are eligible
But while an FHA loan can offer a lifeline if your credit is subpar and you lack down payment funds, it comes with caveats. Ponder some of the disadvantages of FHA loans compared to conventional loans.
- You’re required to pay a mortgage insurance premium (MIP) regardless of the down payment amount
- 1.75% upfront MIP fee
- The property must meet strict minimum standards
- Must live in the property as your primary residence
- The borrowing limits are usually lower
- The interest rate charged may be higher
- Must pay mortgage insurance premiums over the lifetime of your loan if your down payment is under 10%
- Even with a 20% down payment MIP will be required for 11 years
FHA vs. Conventional Loans
Mortgage Insurance Requirements
As stated earlier, an FHA loan obligates you to pay a mortgage insurance premium. Lenders require this insurance to offset their risks of lending on such favorable terms to borrowers who have trouble qualifying elsewhere for a loan. Mortgage insurance protects them in case you aren’t able to make your payments and default.
First, you pay a one-time mortgage insurance premium that equates to 1.75% of the amount of your base loan. This can either be a lump sum payment you make upfront or it can be rolled into your loan.
Second, you have to pay for mortgage insurance annually, calculated as approximately 0.45% to 1.05% of your loan amount (although the actual amount will depend on several factors). This sum is spread out over the 12 months you make your mortgage payments every year.
How to Apply
FHA home loans are common and provided by a variety of lenders nationwide. For help in finding an FHA-approved lender, click here.
“Typically, you can find a nearby lender and submit an FHA loan application online. Be prepared to provide ample financial and employment information, which gives the lender a good idea of your circumstances,” McDermott adds.
Expect the lender to ask you to furnish evidence of steady earnings and two years of employment via tax returns, bank statements, pay stubs, W-2 forms, or otherwise.
“When applying, your chosen lender will pull also your credit report. This is considered a hard inquiry, and it may negatively impact your credit score, although only temporarily,” says Miranda.