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FHA loan down payments decoded

Federal Housing Administration (FHA) loans are mortgage loans backed and insured by the government. These loans are available through FHA-approved mortgage lenders and are typically offered at fixed-rate terms of 15 to 30 years. Many first-time homebuyers like FHA loans because they require lower down payments and a lower minimum credit score than many traditional loans.

One benefit of an FHA loan over a conventional loan is that conventional loans typically require a higher down payment. It can be difficult for first-time homebuyers to save up for a larger down payment, particularly for those with student loans and credit card debt.

Are FHA loans only for first-time homebuyers?

FHA loans are attractive for many homebuyers, not just first-time buyers because they have more flexible requirements than conventional mortgage loans.

For homebuyers with lower credit scores or who plan to make a low down payment, FHA loans are especially attractive. But anyone, even homeowners looking to refinance their mortgage, can apply for an FHA loan if they meet the eligibility requirements.

Qualifying for an FHA loan

To qualify for an FHA loan, you typically must meet the following criteria:

  • Ability to prove your income through verified sources such as federal tax returns, pay stubs, and bank statements
  • Plan to use the loan for your main residence
  • Ability to prove your most recent two years of employment
  • Property meets Department of Housing and Urban Development (HUD) guidelines, including an FHA-approved appraisal
  • A FICO score between 500 and 579 with a 10% down payment or a 580+ FICO score with a 3.5% down payment
  • Debt-to-Income Ratio typically should not exceed 43% of your gross monthly income
  • At least 24 months have passed since declaring a Chapter 7 bankruptcy, although a Chapter 13 may require less time.
  • At least three years have passed since a previous foreclosure

Why does an FHA loan require a down payment?

FHA-approved lenders require a down payment as part of the U.S. government’s National Housing Act. However, the amount isn't as high as what other loan types may require. Because lenders are assuming more risk by accepting lower down payments, they also require buyers to pay mortgage insurance premiums (MIPs) as part of their monthly mortgage payment to help offset the increased risk to the lender.

What are the mortgage insurance requirements for an FHA loan?

FHA loans tend to have stricter mortgage insurance requirements than other types of mortgage loans and typically require homeowners to pay two mortgage insurance premiums: an upfront premium and an annual premium that varies based on several factors. The annual mortgage insurance premiums may remain for the life of the loan. The two types of premiums are:

  • Upfront MIP: The borrower is responsible for paying an upfront MIP, which can be financed into the mortgage but will increase the total monthly payment. Typically, the upfront MIP is 1.75% of the total loan amount.
  • Annual MIP: The annual MIP is an ongoing, yearly insurance premium, which can range between 0.45% and 1.05%. The amount is then divided by 12 and added to your monthly mortgage payment. The cost of the annual premium depends on your mortgage term and your loan-to-value ratio.

What is the minimum down payment on an FHA Loan?

Your credit score is a factor in determining your required down payment amount for an FHA loan. A down payment of 3.5% is the minimum amount required if you have a credit score of 580 or higher. If your credit score is lower than 580, you'll need to make a down payment of at least 10% to qualify for an FHA loan.

Are there down payment gift rules for FHA loans?

The Federal Housing Administration offers the FHA loan for borrowers with low-to-moderate income levels. If you apply for an FHA loan, your gift funds must be from family or another eligible donor. Cousins, nieces and nephews are not able to offer gift money under standard family guidelines.

The FHA also allows gifts from your employer, a labor union or from charitable organizations. You can also use funds from government agencies or public entities that aid low-to-moderate income or first-time buyers.

Certain individuals are prohibited from contributing to FHA loan down payments. These include home builders, real estate agents, real estate brokers, sellers or anyone with a vested interest in selling the house. An exception is a family member selling their home may provide you with a gift of equity.

Finding FHA lenders

Once you're ready to apply for an FHA loan, you'll need to find FHA-approved lenders. Approved lenders can have various costs and rates, even for the same type of loan, so make sure you do your research. Fortunately, several types of lenders offer FHA loans. Before you select a loan, compare interest rates and other costs and fees associated with it to make sure you're getting a good deal.

For many homebuyers, FHA loans are ideal. The low down payment requirement, coupled with a lower minimum credit score, make FHA loans attractive options for first-time and seasoned buyers alike. The Federal Housing Administration guarantees a portion of FHA loans, which allows lenders to expand their acceptance standards. This means borrowers can qualify for mortgage loans with down payments as low as 3.5%.

While FHA loans have drawbacks such as mortgage insurance premiums, they're still an attractive loan option for many homebuyers. When shopping around for loans, it's important to compare rates and fees from lenders and talk to home lending advisors to make sure you're getting the best deal for your needs and goals.

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