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Advantages of FHA mortgages in 2016

FHA MortgageFHA loans continue to be quite affordable in 2016, thanks to last year's reduction in the annual mortgage insurance premium that the Federal Housing Administration charges.

Add lower down payment and credit requirements to the mix, and the fact these federally-insured loans are assumable, and FHA mortgages are an attractive option to many borrowers.

Carla Blair-Gamblian, a home loan consultant for Veterans United Home Loans in Columbia, Missouri, says that FHA loans will always have a place in the market whether their costs rise or fall.

"Not everyone can qualify for a conventional loan, so comparing [conforming loans] to FHA loans across the board may not yield the best picture of what loan product is best," she says.

Here are the advantages of FHA mortgages in 2016:

Lower credit score and down payment requirements

The FHA requirements for credit score and down payments are far lower than for conventional loans. Borrowers can technically qualify for an FHA loan with credit scores of at least 580 and a down payment of just 3.5 percent, according to HUD.

“While an FHA-backed mortgage with FICO 580 is theoretically available to borrowers, many lenders add 'overlays' on these minimum requirements,” says Keith Gumbinger, vice president of HSH.com in Riverdale, New Jersey. “Loans with the lowest credit scores tend to default at a much higher rate, and lenders are afraid that if they issue too many loans that later fail, HUD will no longer allow them to write FHA-backed mortgages.”

Chris Fox, president of F&B Financial Group in St. Louis, says that borrowers must have credit scores of at least 620 or 640 to qualify for most conventional loans. Fox also says, though, that this is a bit of a misleading benefit. He says that not many lenders will approve any loan, conforming or FHA, for borrowers with credit scores under 620.

FHA mortgage rates

FHA mortgage rates are typically lower than mortgage rates on conforming loans. FHA Borrowers with credit scores of 660 will often qualify for the same interest rate as would conventional borrowers with a score of 740, says Blair-Gamblian.

Closing costs

FHA loans allow sellers to pay up to 6 percent of the loan amount to cover buyers' closing costs, says Tim Pascarella, assistant vice president with Ross Mortgage Corporation in Royal Oak, Michigan. In conventional loans, sellers can only pay up to 3 percent.

"For a lot of homebuyers, that's a big benefit," says Pascarella.  "A lot of buyers, especially first-time buyers, can save enough money for a down payment, but then they have nothing else. An FHA loan allows sellers to contribute more to closing costs."

FHA loans are assumable

FHA borrowers have yet another advantage over conventional borrowers: FHA loans are assumable. When it comes time to sell, buyers can take over sellers' existing FHA loans instead of taking out new mortgages at whatever the current mortgage rate is at the time. This is especially advantageous in a rising-rate environment.

"In an environment of rising interest rates, [an assumable loan] can give sellers an advantage over their neighbors," says Dan Green, a loan officer in Cincinnati and author of TheMortgageReports.com.

Assuming an FHA loan isn't always simple, though. While buyers will have to meet all the typical mortgage requirements, they may need a much larger down payment depending on the seller's equity.

If the original mortgage balance was $200,000 and the buyer assumes the loan at a balance of $160,000, the buyer must come up with $40,000 in cash to reach the original balance. The buyer might have to take out a second loan to come up with that figure, which may or may not negate the benefit of a lower interest rate.

Despite the numerous advantages, there are also downsides to FHA mortgages in 2016:

FHA mortgage insurance premiums

The biggest downside of FHA loans has long been the costs associated with the upfront and annual mortgage insurance premiums.

The upfront mortgage insurance premium is 1.75 percent of the loan amount. That's $3,500 on a $200,000 mortgage loan. That cost is added to the principal balance of your loan. So your loan amount is actually $203,500.

However, effective Jan. 26, 2015, the FHA reduced the annual mortgage insurance premium on 30-year fixed-rate FHA loans from 1.35 percent to 0.85 percent of the loan balance. This can lead to significant savings. On a $200,000 loan, the annual premium of 1.35 percent would cost borrowers $2,700. But with a premium of 0.85 percent, borrowers will only pay $1,700 for the same loan.            

The reduced annual rate does not apply to those borrowers who are taking out 15-year FHA-backed mortgage loans. That yearly premium will still range from 0.45 percent to 0.95 percent of the loan balance.

FHA mortgage insurance for the life of the loan

With conventional mortgage loans, borrowers don’t have to pay for private mortgage insurance if they come up with a 20 percent down payment. Conventional borrowers can even request that private mortgage insurance be dropped once their mortgage balance falls to 80 percent of the value of their home.

With FHA loans, borrowers who closed their loans after June 3, 2013 must make mortgage insurance payments every year for the life of the loan, no matter how much equity they accrue.

"The only negative of an FHA loan is its cost," says Pascarella. But if a solid credit score and down payment are a stretch for you, an FHA loan might be your only option.

(Image: Karen Roach/iStock)

More from HSH.com:

More help from HSH.com

  • How to avoid a VA foreclosure

    If you're in a VA mortgage and finding it increasingly difficult (or impossible) to make your mortgage payments, you'll need to take action if you want to keep your home from falling into foreclosure.
  • Potential issues with VA loans

    Read about the potential issues you might encounter with a VA loan.
  • VA Funding Fee: 5 facts you need to know

    One slight drawback of securing a VA loan is that borrowers often have to pay a fee, known as the “VA Funding Fee.” Here are five facts you need to know about the VA Funding Fee and how it works.
  • How many times can I use my VA home loan?

    There are three ways you can restore your VA eligibility so that you can take advantage of it more than once.
  • 18 states with home buying programs for veterans

    States have developed homebuyer-assistance programs specifically designed for veterans.

Comments

  1. Heather May 16, 2016 9:26 pm

    Sorry I came late to the article. I have a credit score of 693 and looking at at least 20% down, maybe more for a mortgage no more than $85000 as I know my budget limits. I could get approved for. Should I go for a FHA loan or try for a conventional first. I don't want to have to pay out PMI insurance which is why I will put down at least 20% because I don't want a mortgage over $450 a month.

      Reply»  
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  3. Ms March 23, 2016 7:03 am

    This article http://www.fhahandbook.com/blog/do-fha-loans-require-pmi/ and this http://themortgagereports.com/14691/fha-mip-mortgage-insurance-premiums-mortgage-rates basically says "Annual MIP Required for the Life of the Loan, in Some Cases." Shouldn't that be mentioned in your article?

      Reply»  
    1. Editorial Team March 28, 2016 9:20 am

      Ms, That fact is mentioned in our article. In fact, there is an entire section titled "FHA mortgage insurance for the life of the loan". -Tim Manni, HSH.com

        Reply »  
  4. Logan Murphy December 18, 2015 5:40 am

    It's really nice to hear that, "The FHA requirements for credit score and down payments are far lower than for conventional loans." My wife and I have only been married just of a year and a half. We are really wanting to find an get into our first home. It sounds like an FHA loan is worth looking into. We are relatively young to be married and are still trying to build a credit score. Thank you for sharing this information, it was really helpful.

      Reply»  
    1. Editorial Team January 05, 2016 8:48 am

      Logan, We're so glad you found this info useful. Please reach out if you need more info. Thanks, Tim Manni, HSH.com

        Reply »  
  5. Ann Gray October 21, 2015 2:35 am

    Hello, I have a credit score of 610, 620 and 664 according to FICO.com I own a home free and clear, no mortgage, in Lutz Fl 33548... which has approx value of $215-$230 k. I am looking to borrow $50k to pay off car loan of $14k as well as some credit cards $5k ..and cash in the bank for emergencies and home improvements. I do NOT want to run credit unless you feel there is a program that might help me. I am trying to improve my credit score and every month it is going up a little. By consolidating my debt%u2026.It will put me in a better financial situation as well as help me repair my credit. Regards, Ann Gray

      Reply»  
    1. Editorial Team October 26, 2015 12:47 pm

      Ann, Thanks for writing in. You're right, you should continue to improve your credit score. You need to contact a mortgage lender (we are not mortgage lenders) to see what assistance is available to you. If you can get your score up you should research a home equity loan or a home equity line of credit. Thanks, Tim Manni, HSH.com

        Reply »  

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