How To Qualify For An FHA Loan: Everything You Need To Know
Financing is not always the most exciting thing to discuss when you are looking to buy a home. Most of us would much rather chat about neighborhoods, layout, and landscaping than down payments, DTIs, and mortgage insurance. However, learning as much as you can about your financing options will make you more confident during the home buying process. In this article, we cover the basics of FHA loans and answer some commonly asked questions.
What Is An FHA loan?
In the early 1930s, during the midst of the Great Depression, about 15 million Americans were unemployed, and almost half of the banks in America had closed their doors. In addition to a high unemployment rate, the majority of Americans were renters, with only 40% of households owning their home (to put things into perspective, the census of 2019 stated a homeownership rate of 65.1%). Banks were understandably wary of lending money due to the high probability of default by borrowers. To help stimulate the housing market, the Federal Housing Administration (FHA) was created by Congress in 1934 to provide mortgage insurance to approved FHA lenders. The goal was to give the lenders peace of mind in the form of insurance, which, in turn, would help stimulate the housing market by making loans more accessible and affordable to homebuyers with less-than-perfect credit and not a lot of money for a downpayment. Though there are several options for home loans, today, the FHA is one of the largest mortgage insurers in the world, insuring more than 46 million mortgages since 1934.
Do I Qualify For An FHA Loan?
There are no minimum salary requirements to secure an FHA loan. However, you must:
- have at least two established lines of credit such as a credit card and car loan
- have no delinquent federal debt (this includes student loans and Small Business Administration loans) or debt associated with past FHA insured mortgages
- be prepared to account for cash gifts associated with the down payment
What Properties Qualify For An FHA Loan?
You can use an FHA loan to purchase a single-family home, two- to four-unit multi-family homes, condominiums, and certain manufactured and mobile homes. There are also other types of FHA loans for new construction or renovations.
The basic rules are as follows.
- The loan must be for a primary residence.
- No investment properties. There is some wiggle room here, though. You can purchase a multi-family home, as long as one of the units is your primary residence.
- A home inspection is required.
- No flipping! You are not able to purchase another home within 90 days.
- The title must be held in your name or the name of a living trust.
How Much Can I Borrow With An FHA Loan?
The limit of an FHA loan depends on where the property you intend to buy is located. San Diego is a high-cost area, so the loan limits are higher than in some other areas. As of January 1, 2020, the maximum mortgage loan for a single-family home in San Diego is $765,600.
We’ve covered the basics above, but there are other things to consider, including the loan down payment, your debt-to-income ratio, and mortgage insurance.
As of January 1, 2020, the down payment for an FHA loan is a minimum of 3.5% if you have a credit score of at least 580. With a credit score of 500 to 579, your minimum down payment is 10%.
Debt-To-Income Ratio (DTI)
Your debt-to-income ratio compares your pre-tax income with your monthly debt payments, including mortgage, credit cards, and student loans. While a 20% DTI is considered excellent, FHA loans require a DTI of 50% or less, which means that at most, 50% of your pre-tax income is used to pay down existing debt.
While most lenders require mortgage insurance when the down payment is less than 20%, FHA lenders require mortgage insurance for all loans, regardless of the size of your down payment. Under the current plan, part of the mortgage insurance involves a fee of 1.75% of the loan amount. You can pay the fee at the closing, or you can incorporate it into your loan amount. In addition to the fee, you are required to pay a fee of 0.45% to 1.05% of the loan amount per year. The percentage depends on the amount of the loan, the amount of money you put down, and the term (the number of years your loan is financed for).
How Can I Become Better Qualified For An FHA Loan?
Improve Your Credit Score
While FHA loans are more attractive to borrowers with less-than-perfect credit, the interest rate on an FHA loan increases as your credit score decreases. It is, therefore, in your best interest to have the best credit score possible when applying.
Get Creative With Your Down Payment
An FHA down payment can include cash gifts, as long as the gift comes with documentation regarding the donor, their relationship to you, and a statement that the donor does not expect to be repaid.
Lower Your DTI
By paying down your debt, you effectively lower your debt-to-income ratio (DTI). A lower DTI works in your favor when lenders calculate your loan offer.
As in most things, when it comes to financing, education is the key to success. Gaining knowledge regarding your financial options means you will be more confident during the homebuying process. While we have covered the basics of the FHA loan minimum requirements, it is essential to remember that banks may have additional qualifications, and interest rates, as well as fees, can differ between lenders. If you plan on financing your home with an FHA loan, we recommend shopping more than one FHA approved lender and comparing offers to make sure you secure the loan that is best for you. We can help you through that process with our trusted partners. Contact us for more info.
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