FHA loans quickly become unaffordable with the expensive FHA mortgage premiums that were being charged. In addition to the upfront mortgage insurance, which could amount to a few thousand dollars, homebuyers were required to pay annual mortgage insurance premiums that were payable on a monthly basis. The insurance was 1.35% of the loan amount. On a $200,000 loan, that equals $2,700 per year or $225 per month. That amount could quickly make a loan unaffordable. With the new, lower percentage of 0.85% which went into effect January of this year, the mortgage premium is more affordable. That same $200,000 loan would now only cost $142 per month, which is quite a savings for homeowners.
Making Homes More Affordable
With the potential savings of $100 or more per month, more people are going back to FHA loans because of their much easier requirements that make it simple to get a home loan. The lower mortgage insurance premium is more in line with conventional financing’s private mortgage insurance, which was the option that many homebuyers were turning to, especially with the addition of the Fannie Mae 97 LTV loan becoming available. The main difference is the strict requirements that the conventional loan comes with versus an FHA loan.
Who is Better off with an FHA Loan?
You might wonder why anyone would take an FHA loan when the same down payment can be made with a conventional loan, but unfortunately, not everyone is eligible for the conventional loan. Lenders are much stricter with this type of loan because there is less of a backing by a third party, which means the lender is on the line for the money if you default on your loan. FHA loans offer a guarantee for the life of the loan because your annual insurance premium is payable for the life of the loan unlike the conventional loan which is able to be canceled once your mortgage is less than 80% of the value of your home.
The regulations following the conventional loans require higher credit scores – typically around 680; a low debt-to-income ratio; and consistent income. If there are any variables that are out of the norm, you will likely be ineligible for a conventional loan. If the lender does decide to take the risk, you will be forced to pay a higher interest rate or pay origination points or other fees to make up for the risk that you are giving the lender.
Deciding Between the Two Loans
The basic consideration to make when deciding between a conventional loan and FHA loan is how you will qualify. Take a look at your credit – is it above average? Do you have any delinquencies in the last 12 months? How are your assets? Do you have a few months’ reserves available in a liquid account? How about your debt-to-income ratio? Is it around 28% on the front end (mortgage, insurance, and taxes) and 35% on the back end (total debt) or is it higher? These are the qualifications that will be considered when you apply for a conventional loan. If you can qualify for the conventional loan without paying a higher interest rate or high fees, it can be worth it because you can cancel it on your own when you are below 80% LTV. Even if you don’t cancel it, the PMI automatically cancels at 78%, by law. Of course, if this is not an option for you, the FHA loan makes it possible for you to become a homeowner; it may just cost you a little more in the long run.