How To Qualify for an FHA LoanUpdated June 24, 2022 Home Loans
If you are purchasing or refinancing a home, choosing a mortgage backed by the U.S. Federal Housing Administration may be a good option. Since they are insured by the federal government, FHA loans often feature attractive terms for borrowers who qualify, including lower interest rates. If you’re unsure whether you would qualify for an FHA loan, you’ve come to the right place – keep reading for everything you need to know about whether an FHA loan is the right choice for you.
8 FHA Loan Requirements
- FHA Appraisal Required
- Sufficient Credit Score
- Appropriate Debt-to-Income Ratio
- Must Be Primary Residence
- Proof of Steady Income
- Able To Make Down Payment
- Has Mortgage Insurance
- No Recent Bankruptcy or Foreclosure
The Federal Housing Administration’s FHA loan program is designed to make sure that potential homebuyers who may not have the income or credit scores to qualify for conventional loans have access to funds to purchase a home. This can be especially important for first-time homebuyers. More than 80% of all FHA loans are issued to first-time buyers, so the program goes a long way toward making homeownership a reality for many home buyers each year.
The federal government insures these loans, but the money doesn’t actually come from the government. Instead, FHA mortgage loans are administered by approved third-party lenders ranging from small community banks and credit unions to some of the best-known names in banking.
Some of the best mortgage lenders in the country participate in this program. These lenders may set their own rates, costs, and underwriting standards as long as FHA minimum program requirements are met. FHA loans are available in 15 and 30-year term options and feature fixed interest rates.
While FHA loans come in multiple types, some of which have specific eligibility criteria, the core qualifications for an FHA loan can be found below.
1. FHA Appraisal Required
In order to take on an FHA mortgage loan, you must have the property you intend to purchase inspected by an FHA appraiser. The standards for an FHA appraisal are generally more stringent than a conventional mortgage. In addition to being assessed for value, your potential property must also pass muster for safety, soundness of construction, and adherence to local code restrictions. Your potential home must meet all FHA guidelines set forth by the U.S. Department of Housing and Urban Development for your FHA home loan to be approved.
2. Sufficient Credit Score
While FHA loans can be attractive options for borrowers with less than perfect credit, you must still be able to show a sufficient credit score to be approved. In general, you’ll need a credit score of at least 580 to be approved with a 3.5% down payment on your home. For borrowers with credit scores between 500 and 579, you may still be approved for an FHA home loan, but you will be required to put down a 10% down payment.
3. Appropriate Debt-to-Income Ratio
In most cases, you’ll need to maintain a debt-to-income ratio, or DTI, of no more than 31% – meaning that no more than 43% of your gross income is devoted to paying off debt, including your mortgage. In some cases, a mortgage lender could accept a DTI of up to 50%, but that is not guaranteed. In addition, most lenders would like to see that your monthly mortgage payment will represent no more than 31% of your gross monthly income.
4. Must Be Primary Residence
If you’re purchasing a vacation home or an investment property, including a home you’ll renovate and resell, an FHA loan will not be an option for you. In order to qualify for an FHA home loan, you must be able to show that the home you’re purchasing will be your primary residence. FHA loans are designed to lower barriers to homeownership, making buying a home possible for those that otherwise might struggle to meet loan eligibility requirements. The program is not intended to help real estate investors or fund vacation homes.
5. Proof of Steady Income
For FHA loan approval, you typically need to show that you have had steady employment and income for at least the immediate two years preceding your loan application.
You will be asked to provide documentation of your reliable source of income. Accepted documentation typically includes pay stubs, federal tax returns, and bank statements. You may also need to show documentation of assets, such as your checking and savings accounts, 401(k) or other retirement accounts, and any other places where you hold investments.
6. Able To Make Down Payment
With an FHA home mortgage, you must be able to make at least a 3.5% down payment, depending on your credit score. With lower credit scores, you will be required to make a 10% down payment. Before applying for your FHA home loan, make sure you have the financial liquidity to meet those down payment requirements since they are non-negotiable.
7. Has Mortgage Insurance
When you take out an FHA home mortgage, you’ll be required to pay two different FHA mortgage insurance premiums. First, there’s an upfront mortgage insurance premium, which should equal 1.75% of your loan amount. This premium must be paid when the FHA borrower gets the loan, though its amount can be included in the total financed loan amount.
Additionally, you must pay an annual FHA mortgage insurance premium, which generally ranges from 0.45% to 1.05% of the home loan amount, depending on whether the loan features a 15 or 30-year term. The total home loan amount and the initial loan-to-value ratio also are considered when setting the annual mortgage insurance premium. The final annual premium amount then is divided by 12 and paid monthly.
8. No Recent Bankruptcy or Foreclosure
It’s recommended to wait for at least two years after a bankruptcy filing or three years after a foreclosure to apply for an FHA mortgage loan. In some cases, an FHA lender may make an exception because of unusual or extenuating circumstances.
What’s the Difference Between an FHA Loan and Conventional Loan?
The major difference between an FHA loan and a conventional loan is that an FHA loan comes with the backing of the U.S. federal government, while a conventional loan does not. Since FHA loans are designed to eliminate barriers for home buyers who may have trouble qualifying for a conventional mortgage loan, they generally feature more favorable terms for borrowers. This typically includes a lower credit score threshold than the score range typically required to qualify for a conventional home loan. FHA loans also require a lower down payment than conventional loans.
For example, an FHA loan usually requires a down payment of 3.5% of the price of the home, as long as the FHA borrower has a credit score of at least 580. For conventional loans, a down payment this low would be reserved for buyers with high credit scores and sufficient documented savings. Borrowers may be able to qualify for an FHA loan with a credit score as low as 500, while the minimum credit score for a conventional home loan usually starts around 620. For both types of loans, a higher credit score results in a better interest rate and terms.
Another difference between the two types of home loans is how the mortgage lender considers debt-to-income ratio, or DTI. This number is the percentage of monthly pre-tax income that is devoted to paying off debt. This includes the borrower’s mortgage, student loans, auto loans, child support, and any minimum payments toward credit card debt. You can qualify for an FHA home loan with a DTI of up to 50%, whereas lenders of conventional loans favor home buyers with DTIs of less than 43%.
FHA and conventional loans also differ when it comes to their corresponding mortgage insurance. If you’re taking on a traditional mortgage with less than a 20% down payment, the lender will require that you also purchase mortgage insurance. This extra insurance simply protects the mortgage lender in case you default on your home loan, and it isn’t generally required if your down payment is a minimum of 20% of your home’s purchase price.
Private mortgage insurance costs will vary according to your credit score and the size of your loan. As you may expect, borrowers with higher credit scores will see more favorable PMI premiums. With a conventional mortgage, your private mortgage insurance premiums automatically will stop once your home equity reaches 22% of your home’s purchase price.
You may also be required to purchase mortgage insurance with an FHA loan, but the cost of your mortgage insurance premiums is not determined by your credit score. If your down payment is less than 10% of your home’s purchase price, your mortgage insurance will last throughout the life of your home loan, unless you refinance into a conventional mortgage at some point. If your down payment is higher than 10%, you will pay mortgage insurance for the first 11 years of your loan.
Both FHA and conventional home mortgages also feature lending limits. The 2022 FHA loan limit is $420,860 for areas with lower costs of living and $970,800 for areas where home prices are documented as very high. In contrast, conventional loans are capped at $647,200 in most areas of the United States.
It’s worth noting that the traditional FHA home mortgage is only one type of mortgage insured by the U.S. Federal Housing Administration. The FHA also backs other types of loan programs, such as the energy-efficient mortgage program, the home equity conversion mortgage program (otherwise known as a reverse mortgage), the graduated payment mortgage program, and mortgages designed specifically for home renovations.
Is an FHA Loan Right for Me?
An FHA loan may be a smart and sound financial option for getting you into a home of your own. If you have decent credit and some money saved for a down payment, an FHA loan can make home ownership possible a lot sooner than with conventional loans.
With an FHA home loan, you can stop renting and begin building equity in your own home, which can serve you well far into the future. Find out today if you qualify for an FHA loan and take the next steps toward owning the home of your dreams.