Loan or FHA: Which is Right for Me?

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Our goal is to give you the tools and confidence you need to improve your finances. Although we receive compensation from our partner creditors, whom we will always indicate, all opinions are ours. Credible Operations, Inc. NMLS No. 1681276 is referred to herein as “Reliable”.

When you are in the home loan market, you have many options, including FHA loans and regular loans. Each type of loan has its own advantages and disadvantages. Which one is right for you depends on several factors, including your needs, financial situation and credit rating

Let’s take a look at conventional FHA Loans and Loans to help you make your choice.

What is a conventional loan?

A regular loan is a mortgage that is not guaranteed by a government agency. Conventional loans may either comply – that is, follow Fannie Mae and Freddie Mac’s guidelines even if it is not federally supported – or not.

Banks, credit unions and other private lenders provide regular loans and may sell matching Fannie Mae or Freddie Mac loans to free up funds for additional loans. Inappropriate loans cannot be sold to Fannie Mae or Freddie Mac, but can be sold to another lender.

What is an FHA loan?

The Federal Housing Administration (FHA), part of the US Department of Housing and Urban Development (HUD), insures FHA loans… Banks, credit unions and other private lenders provide loans to the FHA, and the FHA guarantees that they will repay the loan if the borrower stops making payments.

This guarantee means that financial institutions are willing to provide mortgage loans to buyers who cannot qualify for a regular loan due to a low credit rating or high debt.

Credible makes it easy compare mortgage rates from several lenders.

Loans and FHAs: How They Differ

Conventional Loans and FHA Loans are popular options for borrowers looking to buy a home or refinance their existing mortgage, but they differ in six key ways:

Credit score requirements

When you apply for a mortgage, the lender takes your loan. There are several different versions of your credit rating, but many lenders use the FICO scoring model. Your FICO rating is between 300 and 850. According to myFICO, many lenders consider a credit rating above 670 “good”.

Having a good credit rating can make it easier to qualify for a mortgage because it signals the lender that you are more likely to pay off your loan on time.

Regular Loans and FHA Loans have different minimum score requirements:

  • Normal: 620
  • FHA: 500

Down payment requirement

A down payment is a down payment equal to a percentage of the purchase price of a home. Lenders view the down payment as evidence that you intend to buy a home and are less likely to defaulted on your mortgage. And sellers may see the down payment as proof that you are ready to buy their home.

Minimum down payment:

  • Normal: 3%
  • FHA: 3.5%

Debt to income ratio

Your Debt to Income Ratio (DTI) compares your debt to how much you earn. Lenders calculate your DTI Take your total monthly debt payments (including mortgages) and divide them by your gross income.

Lenders use your DTI to determine the risk of making a loan to you. Generally, the higher your DTI, the more likely you are to have trouble paying your bills. Both regular lenders and FHA lenders set maximum limits for DTI.

Maximum DTI:

  • Regular: 36% (borrowers with higher credit ratings and larger down payments may be eligible for DTI up to 45%)
  • FHA: 43% (borrowers with higher credit ratings and strong cash reserves can qualify with a DTI of up to 50%)

Loan limits

The corresponding conventional loans and FHA loans have loan limits – a dollar limit on the amount they can lend. Loan limits are set each year to reflect US home prices.

2021 Limitations for Single-Family Homes:

  • Normal loan limit: USD 548,250 (limits are higher in some high-value areas).
  • FHA Loan Limit: $ 822,375 (Limits are lower in some areas based on the average home price in that area)

Property standards

Home buyers spend a lot of time thinking about whether they are eligible for a mortgage, but the home you want to buy must also be eligible for a mortgage.

Fannie Mae requires that real estate financed with a regular mortgage be:

  • Residential property with no more than four apartments.
  • Located in the US, Puerto Rico, US Virgin Islands, or Guam.
  • Legally considered a home
  • Safe, reliable and structurally sound
  • Adequately covered by property and flood insurance
  • Accessible from roads that meet local standards
  • Equipped and maintained by public utilities
  • Suitable for living all year round

HUD requires all properties funded by FHA loans to be reviewed by an FHA approved appraiser. The factors that the evaluator takes into account during validation are extensive and include things like:

  • Power lines do not cross a house, pool, or other body of water.
  • Pedestrians and vehicles can drive safely to the property.
  • There are no dangers or inconveniences on the territory.
  • All pools on site must comply with local regulations.
  • The structure can be expected to last for the entire term of the mortgage.
  • The property has access to water, sewerage, electricity and other necessary communications.
  • Termites and other insects do not infest the area.

Private mortgage insurance

Conventional loans require borrowers who make less than 20% of the payment. private mortgage insurance (PMI)… PMI protects the lender if you stop making mortgage payments.

The cost of PMI varies, but according to Freddie Mac, it usually ranges from $ 30 to $ 150 for every $ 100,000 borrowed on a regular loan.

FHA loans require borrowers to pay upfront and annual mortgage insurance premiums (MIPs) regardless of their down payment. The advance MIP is 1.75% of the loan amount. The annual MIP varies from 0.45% to 1.05% of the loan amount, depending on the loan amount, down payment and loan term.

Conventional Loan vs FHA: Pros and Cons of Each

Like any financial product, FHA and conventional mortgages have their pros and cons. When choosing the type of mortgage, carefully weigh the following factors.

Advantages of conventional loans

  • Down payments from 3%
  • PMI can be avoided with 20% down payment
  • Usually fewer paperwork is required than government-backed loans

Cons of regular loans

  • Higher credit rating requirements than government-secured loans
  • Lower DTI requirements than FHA loans
  • Borrowers cannot include closing costs in the loan

Pros of FHA loans

  • Down payments from 3.5%
  • Available to borrowers with lower credit ratings
  • Higher DTI Allowed

Cons of FHA loans

  • Strict inspection and evaluation standards mean this is not the best option for renovators.
  • Only available for primary residence, not for vacation homes or investment properties.
  • Mortgage insurance is required no matter how much you deposit

Comparison of rates and lenders can help you get a competitive rate. You can find out about several lenders through Credible.

How can I qualify for a regular loan or FHA mortgage?

Whichever home loan you choose, there is a procedure for applying for a mortgage.

Eligibility for a regular loan

  1. Collect the documentation. Collect the required paperwork before applying for a mortgage. While the exact paperwork you need varies from lender to lender, you will likely need your recent payroll receipts, W-2s, tax returns, bank and credit reports, and proof of any other income.
  2. Apply. Many banks and mortgage lenders allow you to start the online mortgage application process. Get three or four quotes from different lenders on the same day to make sure you are getting the best interest rate and terms. You may need to make a small upfront payment – usually no more than $ 20 – to cover the credit check.
  3. Select a loan offer. Once you have chosen an offer, contact the lender to let them know that you want to move on. To apply for a loan, the lender may request additional documentation to prove your income, DTI ratio and cash reserves. Answer any questions promptly to keep your application running. The lender can also order an appraisal and provide you with the option to order an inspection.
  4. Close to your home. You should receive a final closing notice three business days before your mortgage is closed. Review it carefully to make sure the interest rate, closing cost, and other loan terms match your terms. Your lender and agent will draw up a final round and close schedule where you will pay the closing costs and sign the paperwork.

Eligibility for an FHA Loan

  1. Collect the documentation. You will need pay stubs, W-2 forms, tax returns, bank and credit statements, and proof of any other sources of income.
  2. Find an FHA approved lender. Use the HUD Search in the list of creditors a tool to find an FHA lender in your area. Check with three or four lenders to make sure you are getting the best deal.
  3. Select a loan offer. Once you have chosen an offer, contact the lender to let them know that you want to move on. The lender may ask for additional documentation to prove your income, DTI and cash reserves. You can also have a home checkup.
  4. Get an estimate. The lender will assign an appraisal to ensure that the property meets the requirements. FHA requirements and confirm the value of the house. If the appraiser determines that the home is worth less than what you agreed to pay, you will need to negotiate a lower price with the seller, pay the difference out of your pocket, or find another loan.
  5. Close to your home. Review the interest rate and other loan terms included in the final disclosure and visit the final check. Sign a bunch of paperwork and pay the closing costs and you will receive the keys to your new home.

You can use Credible for compare mortgage rates and find out about lenders.

about the author

Janet Berry-Johnson

Janet Berry-Johnson is a small business income tax and accounting specialist. She has worked as an accountant for over 12 years and has written about personal finance for over five years. Janet has written for several prominent media outlets including The New York Times, Forbes, Business Insider, and Credit Karma. In 2021, Canopy named her one of the 10 Most Powerful Women in Accounting and Tax.

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