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Understanding FHA Loans: A Comprehensive Guide

Conventional mortgages often require significant down payments and high credit scores, making them inaccessible for some prospective homeowners. FHA loans offer a potential solution for those who don’t qualify for conventional mortgages but still dream of owning a home.

What Is an FHA Loan?

An FHA loan is a mortgage insured by the Federal Housing Administration (FHA). Because they are backed by the government, FHA loans are typically easier to qualify for than conventional loans. However, they may only be used to purchase certain types of properties.

Borrowers who take out an FHA loan must pay mortgage insurance and meet the loan limits set by the Department of Housing and Urban Development (HUD). For 2024, FHA loan limits range from $498,257 to $1,724,725 for single-unit properties, depending on the cost of living in your area.

FHA Loan Requirements

While FHA loans have more relaxed borrowing criteria than conventional loans, not everyone will qualify. If you need help determining your eligibility, a HUD-approved housing counselor can work with you to navigate the process. Here’s what you need to know about qualifying for an FHA loan:

Credit Criteria

You may be able to qualify for an FHA loan with a credit score as low as 500 if you have a down payment of at least 10%. However, applicants with higher credit scores typically qualify for better rates. You can check your credit score from Experian for free to see how it may affect the rate you receive.

If you have a bankruptcy in your credit profile, you may still be able to qualify for an FHA loan if it was discharged at least two years before you apply. Applicants with a history of foreclosure or default on a previous FHA loan may be eligible for an FHA loan after three years.

Down Payment

Minimum down payment requirements vary based on your credit score. You may be able to get an FHA loan with a down payment as low as 3.5% if your credit score is 580 or higher. If your score is 500 to 579, you’ll need a down payment of at least 10%.

Larger down payments allow you to borrow less, resulting in lower monthly payments that give you more breathing room in your budget. If you can’t come up with a down payment on your own, the FHA allows gift funds from eligible family members, friends, and assistance programs.

Income

FHA loans don’t have specific income requirements attached to them. However, you must show that you have a steady paycheck and earn enough to make your loan payment each month.

Debt-to-Income Ratio

Your debt-to-income ratio (DTI) is the debt payments you make each month compared to your monthly income. Generally, you must have a total DTI of 43% or lower, and your mortgage payment (including principal, interest, insurance, homeowners association fees, and other mortgage-related costs) must be 31% or lower than your income. In certain situations, higher ratios may be allowed.

Property Type

FHA loans can typically only be used to buy a primary residence, including single-family homes, multifamily homes with one to four units, townhomes, certain condominium units, and manufactured homes on a permanent foundation.

Mortgage Insurance

Mortgage insurance protects your lender if you’re unable to repay your loan. FHA loans have one-time and ongoing mortgage insurance payment requirements. When you take out your loan, you must pay an upfront fee that’s usually equal to 1.75% of the loan amount. After that, you must make monthly mortgage insurance payments. Each year, your total costs will equal 0.45% to 1.05% of the loan amount.

Can You Apply for an FHA Loan More Than Once?

Yes, you can apply for more than one FHA loan. Although FHA loans are popular among first-time homebuyers, they’re not limited to individuals who have never owned a home.

There are no restrictions on how many times you can get an FHA loan. However, because you can typically only use an FHA loan to buy a primary residence, you can’t have more than one at a time. If you’re already a homeowner, you’d typically need to pay off your current FHA loan or sell your existing property before getting another FHA loan.

There are exceptions to this rule if you’re relocating for work, have a growing family, are permanently leaving a jointly owned property, or are a co-borrower on an FHA loan for a property you don’t live in.

Should You Get an FHA Loan?

FHA loans offer benefits to prospective home buyers who may not be able to qualify for a conventional loan. An FHA loan could make sense if:

• You have less-than-stellar credit. Conventional mortgages usually require a credit score of at least 620, but you may be able to get an FHA loan with a score as low as 500. It’s even possible to qualify for an FHA loan if you’ve experienced more significant financial troubles, such as bankruptcy or foreclosure.
• You have a small down payment. You may qualify for an FHA loan with a down payment as low as 3.5%, making it a good option for prospective homebuyers who don’t have a significant amount of cash set aside.

However, an FHA loan may not make sense if:

• You have a high credit score. If you have excellent credit, you can probably get a lower rate and better loan terms with a conventional loan.
• You have a sizable down payment. If you can put 20% or more down, you’ll avoid paying mortgage insurance with a conventional loan.
• You’re purchasing a second home or vacation property. FHA loans can only be used to finance the purchase of a primary residence.
• You need a larger loan amount. FHA loans are only available in amounts up to the limits set by HUD. If you need a loan that exceeds these limits, an FHA loan isn’t a good fit.

Where to Get an FHA Loan

Although FHA loans are backed by the government, you get them through traditional lenders such as banks and credit unions. However, not all lenders offer FHA loans. You can find a list of FHA-approved lenders on the HUD website.

While the FHA establishes the minimum requirements to qualify for a loan, individual lenders may have higher standards, and lenders set FHA loan interest rates. Because rates and lending criteria vary among financial institutions, it’s worth shopping around and comparing multiple loan offers, including non-FHA loans, to find the most affordable option. If you’re a first-time homebuyer, you may have several options in addition to FHA loans.

Prepare Your Finances

If you plan to buy a home, it’s best to start preparing several months in advance to make sure you’re ready when you find the home of your dreams.

Start by checking your credit reports and correcting inaccuracies as soon as possible. You can check your Experian credit report for free anytime, and you can check your credit reports from all three consumer credit bureaus (Experian, Transunion, and Equifax) at AnnualCreditReport.com.

If you need to improve your credit, take steps now. The stronger your credit score, the better your chance of getting approved and receiving a lower interest rate, which can save you thousands of dollars in interest over the life of your mortgage. Prepping for a home purchase early also allows you to save for a down payment and pay down debt to reduce your debt-to-income ratio.

For any mortgage service needs, call O1ne Mortgage at 213-732-3074. Our team of experts is ready to assist you in finding the best mortgage options tailored to your needs.

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