First-time home buyers guide: What is an FHA mortgage?

Gina Pogol
The Mortgage Reports contributor

What is an FHA mortgage?

When you’re buying a home, finding the monies for a down payment can be challenging. And even if you have a large amount of money to put down on a house, you may decide you don’t want to.

For example, let’s say the  home you’re purchasing requires repairs. You may want to save your cash for home improvements.

Or, if you’re about to send a child to college or purchase a new car, you may not want to use your cash savings on a down payment for a home.

There are lots of reasons why you may not want to make a large down payment and, thankfully, as a home buyer, you have lots of low- and no-no down payment mortgage options at your disposal.

One of the most common small down payment loans is the FHA mortgage.

Requiring a downpayment of just 3.5 percent, FHA loans account for 1-in-4 of all home loans made; and many first-time home buyers use them for their low rates and ease-of-qualification.

FHA mortgage rates are typically below-market and more home buyers qualify for FHA loans than any other mortgage loan type available.

Ready to start your home buying journey? Start here. (Mar 31st, 2020)

FHA loans: The original low-down payment mortgage

FHA mortgages have a storied history. They were born from the Great Depression, meant to make homeownership possible during a period when banks just didn’t want to make loans against homes.

As the housing market collapsed, the government formed the Federal Housing Administration (FHA). The agency’s role was to be simple — provide insurance to banks so that banks would be willing to make loans for real estate.

The decree that formed the FHA was made eight decades ago. Today, the agency continues to fulfill its primary role as an insurer of mortgage loans.

Meanwhile, understanding that the FHA is a mortgage insurer — not a mortgage lender — is an important distinction for home buyers to make. It means that you can get FHA-insured loan from just about any mortgage lender that you want.

You don’t “go to the FHA” to get an FHA loan. You go to your mortgage lender.

In fact, even labeling an FHA-insured mortgage as an “FHA loan” is somewhat misleading because FHA loans are not really “loans from the FHA”. They’re loans from a lender, insured by the FHA, and the FHA is the biggest insurer of mortgages in the world.

Because of FHA mortgage insurance, today’s home buyers can purchase homes with as little as a 3.5% down payment, and can get approved for mortgage loans with credit scores of 500 or better.

And, lenders are happy to make such loans because the Federal Housing Administration insures the loans against loss.

If you, as the home owner, find yourself suddenly unable to make your monthly mortgage payment, your bank won’t take a loss. This is when the FHA’s insurance policy kicks in, and pays the bank for its trouble.

Because of the FHA, banks are willing to make aggressive loans to deserving buyers of homes and this helps to promote homeownership.

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The benefits of an FHA mortgage

There are a number of reasons why, after 80-plus years, the FHA mortgage program remains the most popular low-downpayment loan on the market.

Here are just a few of them.

FHA mortgage rates are often “below-market”

FHA mortgage rates are typically 12.5 basis points (0.125%) or more below the rates for a comparable conventional 30-year fixed-rate mortgage. And, for loans with down payments of 10% of less, and for borrowers with less-than-perfect, this gap can be even wider.

It’s not uncommon for first-time home buyers, whose credit scores are often lower-than-average, to get an FHA mortgage rate quote more than 100 basis points (1.00%) below a comparable conventional rate.

FHA loans allow 3.5% down payment

FHA loans allow for a down payment of 3.5 percent for buyers with even below-average credit scores. No other mortgage program even comes close.

Although other low- and zero-downpayment mortgage loans exist, most require at least average credit. The FHA has no such restriction.

FHA loans allow below-average credit scores

The FHA will insure loans for borrowers with credit scores of 500 or higher. Most other loan programs enforce a minimum credit score requirement of 620.

For many home buyers, therefore, especially ones at the lower end of the credit scoring spectrum, the FHA is the best and cleanest path to homeownership.

The FHA forgives your “bad credit” history

In keeping with its mission to promote homeownership nationwide, the FHA takes a different approach toward bankruptcy, foreclosure, and short sales as compared to other mortgage lending agencies.

Traditionally, a home buyer with a recent bankruptcy, foreclosure, or recorded short sale would have to wait as many as 7 years before a lender would approve a new home loan application.

The FHA's minimum wait time is just 12 months.

FHA loans have no “special rules” for qualification

Unlike other low- and no-down payment mortgage programs, there are no special qualifications required to use an FHA home loan.

For example, the 100% VA loan requires borrowers to be members of the military; and, the 100% USDA loan requires home buyers to live in less-dense neighborhoods while staying with certain income thresholds.

Even the conventional HomeReady™ mortgage, which allows 3% down, places restrictions based on household income or census tract.

The FHA requires no such verification.

You can use FHA mortgages regardless of where you live, what you do, and what you earn. FHA loans are for everyone.

The FHA mortgage program offers a built-in home construction loan

The FHA recognizes that not all homes are move-in ready. So, to help home buyers who plan to update appliances, replace flooring, replace a roof, paint rooms, and the like, the agency makes available the FHA 203k loan.

The 203k loan is named after the section in the FHA rule guide which describes the rules of the program. Using the 203k, home buyers can purchase a home and finance the home improvements into their mortgage.

This means that home repairs don’t have to be paid using your cash. They can be paid using your mortgage instead. Your mortgage lender can explain more about how the 203k program works.

Qualifying for an FHA mortgage

The process to qualify for an FHA mortgage is similar to how you might qualify for any other mortgage loan type.

After giving a mortgage application to a lender — either by phone, by internet, or by app — you will be asked to provide documentation which supports the information you’ve provided.

This will include providing W-2s, pay stubs and federal tax returns; as well as bank statements and proof of employment.

You will not need to prove that you are a first-time home buyer in order to use the FHA home loan because the program is available to everyone. However, you will be asked to certify that the home you’re purchasing will be your new primary residence within 60 days of your closing.

FHA loans are not available for use on second homes, vacation properties, or investment units. FHA loans are for primary residences only.

Once you’ve made your verifications, your mortgage lender will review your documentation against the FHA’s official minimum standards. Known as the “FHA Guidelines”, these standards determine whether your loan is eligible for FHA mortgage insurance.

Loans eligible for FHA mortgage insurance get approved and funded for closing.

What are today’s mortgage rates?

First-time home buyers have access to a myriad of low- and zero-down payment mortgage loans. Of all the available loan programs, though, the FHA loan is the most inclusive and accessible for today’s buyers.

Get today’s live mortgage rates now. Your social security number is not required to get started, and all quotes come with access to your live mortgage credit scores.

Verify your new rate (Mar 31st, 2020)

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