What is an FHA loan? Find out the pros and cons.
An FHA loan is a loan that is regulated by the Federal Housing Administration (FHA), a government agency. It is issued by private lenders, not the government. This type of loan allows home buyers to put less money down, as low as 3.5%, as compared with a conventional loan which typically require a 20% down payment. Also, FHA loans have lower credit score requirements than conventional loans. This lower down payment amount and lower credit score requirement make them a good option for some home buyers. These loans have both advantages and disadvantages.
How much can I borrow with an FHA loan?
There is a loan limit for FHA loans that varies by county. To find the loan limit in the county you are interested in buying a home in, visit the Department of Housing and Urban Development (HUD) web page to see.
What are the advantages?
An FHA loan allows for home buyers to put less money down and have a lower credit score than conventional loans. Home buyers can put as little as 3.5% of the purchase price down, in contrast to a conventional loan which may require a 20% down payment.
What are the drawbacks?
One drawback of an FHA loan is a potentially higher interest rate than with a conventional loan. However, exactly how much more expensive an FHA loan will be from a conventional loan depends on the current market. It’s worth shopping around and comparing different amounts down and different loan options.
Another drawback of this loan is that mortgage insurance is required for all FHA loans. Mortgage insurance is an extra fee that is paid on top of the monthly mortgage payment. There are two components to the FHA loan mortgage insurance.
The first fee is called the Upfront Mortgage Insurance Premium (UFMIP) and is typically rolled into the loan amount. This fee is 1.75% of the loan amount. So, on a $100,000 loan amount, the UPMIP would be $1,750, making the total loan amount $101,750.
The second fee is the Mortgage Insurance Premium (MIP) and is added to the monthly payment. The amount you pay extra per month depends on a number of factors, such as down payment amount and loan amount. A table showing how to calculate MIP for your particular loan can be found from HUD (government website) here.
FHA loans are a great option in the marketplace for home buyers who don’t have as much money as typically required for a down payment and/or lower credit scores. In order to determine your best option, home buyers should shop around and look at different lenders, loans, and amounts of down payments required, and weigh the cost issues that come with FHA loans before making a decision.