FHA Loan: Requirements, Types And How To Know If You Qualify
UPDATED: Sep 18, 2024
You can choose from a variety of mortgage loan types when buying a home. One of these options is an FHA loan. These loans, insured by the Federal Housing Administration, are attractive to borrowers with lower credit scores. They’re also a good choice for home buyers who don’t have the funds for a larger down payment.
This doesn’t mean that FHA loans don’t come with downsides. You will have to pay an upfront fee when taking out an FHA loan and an annual fee every year thereafter.
But if your credit score needs some repair and your savings account isn’t bursting? An FHA loan might be a smart choice.
What Is An FHA Loan?
The Federal Housing Administration, a division of the U.S. Department of Housing and Development, has insured about 50 million mortgages since 1934. FHA mortgages are available on single-family homes, multifamily properties, residential care facilities and hospitals throughout the United States.
The FHA's mortgage insurance protects lenders against losses. If you default on your FHA mortgage, the Federal Housing Administration pays your lender for the principal balance you left unpaid. The goal here? Lenders are taking on less risk with FHA loans. Because of this, they can loan mortgage dollars to a greater number of home buyers.
FHA loans are an attractive option to several borrowers, particularly first-time home buyers, compared to other types of loans. First, these loans require smaller down payments. If your FICO® credit score is at least 580, you can qualify for an FHA loan with a minimum down payment of just 3.5% of your home’s final purchase price. If your FICO® Score is at least 500, you can qualify for an FHA loan with a minimum down payment of 10% of your home’s final purchase price.
FHA loans are attractive to borrowers with damaged credit, too. Borrowers need a minimum FICO® credit score of just 500 to qualify for a loan insured by the FHA. Remember, though, that FHA loans are originated by private lenders. These lenders might require higher credit scores even though you are applying for an FHA loan.
How Do FHA Loans Work?
While the Federal Housing Administration provides the insurance that backs up FHA loans, it does not originate them. For that, you must work with a private lender, typically a bank, broker or credit union.
This means that depending on where you apply, your requirements for an FHA loan might differ. Because the FHA backs these loans, they typically require lower credit scores. But each individual lender might have its own requirements. Even if you only need a FICO® Score of 500 to qualify for an FHA loan, the lender you work with might require that your score be a higher 620.
FHA Loan Limits
You can only borrow so much with an FHA loan. Each year, the U.S. Department of Housing and Urban Development publishes a new limit. For 2024, FHA loan limits for a single-family home range from $498,257 in what are defined as low-cost areas of the country to $1,149,825 in high-cost areas.
In Alaska, Hawaii, Guam and the U.S. Virgin Islands, the FHA's 2024 loan limit for single-family homes is $1,724,725.
You can look up the FHA mortgage loan limits in your area at the FHA Mortgage Limits page run by the U.S. Department of Housing and Urban Development.
FHA Loan Requirements
As with all mortgage types, you must meet certain requirements to qualify for an FHA loan. Remember, though, that the requirements of the private lender that you use to originate your FHA loan might vary from the ones set by the FHA.
Credit Score
You’ll need a credit score of at least 580 to qualify for an FHA loan that requires a minimum down payment of 3.5% of your home’s purchase price. If your score is 500 to 579, you can qualify for an FHA loan with a minimum down payment of 10% of your home’s purchase price. If your FICO® Score is under 500, you won’t qualify for an FHA loan.
Debt-To-Income Ratio
Your debt-to-income ratio (DTI) measures how much of your gross monthly income certain of your debts consume each month. Lenders consider such payments as your mortgage, student loan, personal loan and auto loan payments as part of your monthly debt. They also include your minimum required monthly credit card payment. Lenders for most conventional loans want these total monthly debts to equal no more than 43% of your gross monthly income.
The FHA requires that your monthly mortgage payment on its own not equal more than 31% of your gross monthly income. The FHA also requires that your total recurring monthly debt obligations equal no more than 43% of your gross monthly income.
Down Payment
When you purchase a home, you’ll usually be required to come up with a down payment, an upfront payment equal to a percentage of your home’s final purchase price. Lenders typically require this because you’ll be less likely to stop making your mortgage payments if you’ve already spent thousands of dollars on your home.
If your FICO® credit score is 580 or higher, you’ll need a minimum down payment of 3.5% of your home’s purchase price. If your score is 500 to 579, you’ll need at least a 10% down payment.
You can provide a higher down payment, too. Remember, the higher your down payment, the more likely it is that you will qualify for a lower interest rate.
Income
The FHA requires that your lender verify your employment status for the most recent two full years. You'll need to explain any employment gap that runs for 1 or more months. There is no minimum income requirement, but your lender will verify that you earn enough money each month to afford your mortgage payments and other bills.
To prove your income, you might need to provide your lender with copies of your last two paycheck stubs, last 2 months of bank account statements, last 2 years of income-tax returns and your W2 statements from the last 2 years.
Mortgage Insurance
You’ll have to pay both an upfront mortgage insurance premium and annual mortgage insurance premium when you take out an FHA loan.
The upfront mortgage insurance premium is 1.75% of your mortgage loan amount. If you take out a mortgage of $300,000, your upfront mortgage insurance premium will equal $5,250. This is a one-time payment. You can pay it upfront when you apply for your mortgage or roll it into your total loan amount. This second option will increase the total amount that you borrow and must pay back.
Your annual mortgage insurance premium, which you pay each year, will vary according to your loan's term, the amount you borrow and your down payment. For an FHA loan with a term longer than 15 years, your annual mortgage insurance premium will range from .50% of your outstanding loan balance to .55% if your original loan was for $726,200 or less and from .70% to .75% if that original balance was more than $726,200.
For an FHA loan with a term equal to or less than 15 years, your annual mortgage insurance premium will range from .15% to .40% of your outstanding loan balance if your loan was less than or equal to $726,200 or .40% to .65% if it was greater than $726,000.
How long you have to pay this extra cost before you can get rid of your mortgage insurance varies, too. If you provide a down payment equal to or greater than 10% of your home's purchase price, you can stop paying for this insurance after 11 years for most mortgage amounts and lengths. If you come up with a lower down payment, you'll typically have to pay this insurance premium for the full length of your loan.
FHA Loan Vs. Conventional Loan
The main difference between an FHA loan and a conventional mortgage loan? Government agencies such as the FHA do not back conventional loans. Because conventional loans lack the backing of the U.S. government, they typically come with more stringent requirements.
| FHA Loan | Conventional Loan | |
|---|---|---|
| Credit Score | 580 with a minimum down payment of 3.5%; 500 for minimum down payment of 10%. | Varies by lender, but you'll typically need a score of at least 620. |
| DTI Ratio | 43% | Varies, but most lenders prefer DTI ratios no higher than 43%. |
| Down Payment | A minimum of 3.5% with a FICO® score of at least 580; 10% with a score of 500 to 579. | You can qualify for a conventional loan with a down payment of just 3% of a home's purchase price. |
| Income | Lenders must verify your last 2 years of employment and income. | Varies, but most lenders will require documentation verifying your last two years of income. |
| Interest Rate | This will vary depending on your loan's term, your down payment and your credit score. | Will vary depending on your credit score, your down payment and your loan's term. |
| Mortgage Insurance | Depending on your down payment and loan term, you might have to pay mortgage insurance for the full term of your mortgage. At a minimum, you'll need to pay mortgage insurance for 11 years. | Your lender will remove private mortgage insurance when your mortgage balance hits 78% of your home's purchase price. |
6 Types Of FHA Loans
The FHA insures several types of mortgage loans, each designed for a different type of borrower or homeowner.
Standard Home Purchase
You can use a standard FHA loan to purchase a home. You can use this loan type to buy a single-family home, a multifamily property with up to four units, a manufactured home and a condominium unit.
Streamline Refinance
An FHA streamlined refinance is a faster way to refinance your existing mortgage to a new one, hopefully with a lower interest rate. If you are refinancing an existing FHA mortgage to a new FHA loan, you might not have to provide as much paperwork to verify your income. You might also be able to skip an appraisal of your home. This loan is only available to owners refinancing an existing FHA mortgage to another FHA loan.
203(k) Renovation Loan
With a 203(k) renovation loan, you can pay for the costs of buying a home and renovating it all in one loan. Your loan amount will include the purchase price of your home and the costs necessary to renovate it. You will have to work with a licensed contractor to get an estimate of the costs of renovations.
Cash-Out Refinance
If you need access to extra cash, an FHA cash-out refinance loan might be a good option. With this loan type, you refinance to a new FHA loan worth more than what you owe on your current mortgage. Say you owe $200,000 on your current loan. You might refinance to a new FHA loan of $270,000. You’d then receive the extra $70,000 as a lump-sum payment that you can spend however you like. You will have to pay back what you borrow with regular monthly payments with interest.
Home Equity Conversion Mortgage (HECM)
A home equity conversion mortgage, or HECM, is a reverse mortgage available to homeowners 62 and older. With these loans, you don’t make payments to your lender. Instead, your lender pays you each month. It’s a way for seniors to tap their home’s equity for a steady income stream during their retirement years. You only pay back what you’ve borrowed when you sell your home, refinance the loan or pass away. The downside is that you might not be able to pass your home onto your heirs.
Energy-Efficient Mortgage (EEM)
An FHA energy-efficient mortgage, or EEM, helps buyers cover the costs of upgrades to boost their home's energy efficiency. Under this program, you can apply for a higher mortgage amount to cover the costs of energy-efficient upgrades. The benefit here is that even with a higher mortgage payment, you might save significantly on the cost of your utilities.
Pros And Cons Of FHA Loans
As with all mortgage types, there are both benefits and negatives to applying for an FHA mortgage.
| FHA Loan Advantages | FHA Loan Disadvantages |
|---|---|
| With a FICO® credit score of at least 580, you'll only need a down payment of 3.5% of your home's purchase price. | While a lower down payment makes it easier to get into a home, it will take you longer to build equity if your down payment is smaller. |
| FHA loan are available to borrowers with FICO® credit scores as low as 500. | Not all private landers - who originate FHA loans - will approve borrowers with credit scores under 620, even if they are applying for an FHA loan. |
| You can select form standard FHA loans or those geared towards owners renovating a property, those adding energy-efficiency features to a home or owners hoping to refinance quickly. | You'll have to meet several requirements to qualify for the more specialized of FHA loans. |
| In certain areas of the country, you can apply for an FHA loan of more than $1.14 million. | In lower-cost areas of the country, you can only borrow up to $498,257 with an FHA loan. |
| You don't have to pay for private mortgage insurance, a form of mortgage insurance that lenders charge when you take out a conventional loan and don't come up with a down payment of 20% or more. | You will have to pay both an upfront mortgage insurance premium and an annual mortgage insurance premium. This latter premium might last for the entirety of your loan's term. |
FHA Loan FAQs
Questions about FHA loans? Here are answers to some of the more common ones.
What’s the downside of an FHA loan?
The biggest downside to an FHA loan is the annual mortgage insurance premium. Depending on your mortgage term, down payment and amount, you might have to pay this premium every year until you sell your home, refinance your mortgage or pay off your loan. This adds to the expense of an FHA loan.
How hard is it to get an FHA loan?
It’s typically easier to qualify for an FHA loan than a conventional mortgage. That’s because you only need a FICO® credit score of 500 or higher to qualify for a loan insured by the FHA. Just be aware that some private mortgage lenders won’t approve you for a loan with a credit score that low, even if you are applying for an FHA loan.
Do I qualify for an FHA loan?
You’ll have to meet with a private mortgage lender to determine if you qualify for an FHA loan. In general, though, you need a credit score of at least 500 and a debt-to-income ratio no higher than 43% to qualify for an FHA loan.
How do I apply for an FHA loan?
You’ll contact a mortgage lender to apply for an FHA loan. These lenders might ask for copies of your last two paycheck stubs, last 2 months of bank account statements, last 2 years of income-tax returns and last 2 years of W2 forms to verify your income. Your lender will also pull your credit reports and credit score.
The Bottom Line: An FHA Loan Can Help You Achieve Homeownership
FHA loans come with upsides and downsides. Yes, you might have to pay an annual mortgage insurance premium for the life of your loan. And you are limited in how much you can borrow with an FHA loan. But you can also qualify for these loans with a lower credit score. And you might need a down payment of just 3.5% of your home’s purchase price.
Interesting in securing a mortgage to purchase your home, start the approval process with Rocket Mortgage® today.
Dan Rafter
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