FHA loans (Federal Housing Administration loans) enable people to purchase a home with a small down payment. People who would otherwise be unable to purchase a home can do so if they qualify for an FHA loan. They no longer have to save up for a large deposit, which many are unable to do, but can apply and be given a loan that the Federal Housing Administration insures against non-payment.
This gives sufficient security to lenders to enable them to offer loans to those who would otherwise have been a poor risk without the need for a large deposit. Here are some of FHA loan basics that will help you to understand more about this type of loan and whether or not you may qualify.
The Benefits of FHA Loan
a) A major benefit is a relatively low down payment, although there are qualifications as detailed below. Depending on your situation, you can get finance for a down payment of as little as 3.5%. This is considerably less than the vast majority of mortgage finance. One reason for such a low down payment is that the Federal Housing Administration insures the lender against you failing to make the payments.
b) In certain circumstances it is possible to use a cash gift from a family member to make your down payment, and also to meet any closing costs you have to pay. This is not always the case, and is discussed in more detail below.
c) In certain cases, a lender may be more lenient with your repayment schedule than with a normal home loan, particularly when times are hard. This is not mandatory, however, and is up to individual lenders.
d) There is no penalty for prepayment, meaning that if you are able to pay more towards your mortgage at certain times there will be no penalty added by the lender for loss of interest
e) It is possible for FHA loans to be taken over by someone else. Thus, if you sell your home, the buyer can take over your mortgage rather than having to get new finance – this makes your home more sellable, and is known as an ‘assumable’ mortgage. The deeds are simply transferred, and the buyer pays you the difference between what is owed on your FHA loan and the agreed selling price.
Most people requiring a mortgage will qualify, although there are certain restrictions that have got tighter since April, 2012. Here are some of these:
Since 2010, you need a credit score of at least 530, although if your score is below 580 you will have to pay a 10% down payment. This payment must be your own money, and cannot be paid by anybody else such as members of your family. Above 580, the down payment is 3.5%, and this can be paid as a gift from a family member.
You may be asked to provide a full year of rental history if you have a credit score of below 620. However, in practice, you will likely find that in 2012 most lenders offering FHA loans will require a credit score of 640. This is not particularly high, but neither is it low.
Debt to Income Ratio
Your current level of debt should not be more than a specific ratio. If a lender requires a debt to income ratio of 29/41, this means that your housing payments (interest, principal repayment, insurance and taxes) should be less than 29% of your gross income (before deductions). The 41% figure refers to your total debt, known as your ‘long-term’ debt ratio. This means that your housing expenses plus any other debt, such as credit card payments and other loans, must be below 41% before you qualify for a loan.
The debt to income ratio gives the lender an indication of the affordability of the loan to you, and your lender can set them on an individual basis. If you are married, you can improve these ratios by amalgamating your individual incomes and making an application for a joint FHA loan.
Debts in Collection or Dispute
Since 1st April, 2012, you might not qualify for an FHA loan if you have $1,000 debts or more in collection or under dispute, even with a perfect credit score. You must settle such debts, or bring them below $1,000.
Why You May Choose an FHA Loan
If you think it would be difficult for you to raise a high down payment, then this type of loan would be ideal for you. The same is true if you have a relatively low credit score that could deter regular mortgage lenders: they no longer have concerns about your ability to meet your repayments because the FHA insures them against your failure to pay.
One problem that has arisen in 2012 is an increase in insurance payments. In fact, these have risen to the extent that anybody with a good credit score that is able afford a 5% down payment would likely be better off with a regular mortgage. Feel free to contact us directly so that we can help you decide whether an FHA loan is best for you.