To FHA or Not To FHA…That Is the Question
The other day a Realtor friend of mine sent me a Purchase agreement and had marked the loan type as FHA. The borrower had a great credit history and was putting down 10% of the purchase price. I called my friend and asked him to change the loan type on the purchase agreement from FHA to Conventional. At this point my realtor friend asked me, “Why? What’s the difference?” Well, as my grandpa used to say, the difference is in the details.
FHA is a great program. Here are some of the Pro’s for using FHA:
· FHA will lend money to borrowers with lower credit scores, down to a 640.
· FHA also has great interest rates, Below 4% last week
· FHA offers lower down payments, 3.5% of the purchase price
· FHA can be used with Indian Housing to subsidize down payment (restrictions apply)
· FHA has lower time restrictions on Bankruptcy and Foreclosure, 2 and 3 years respectively
What’s the catch you ask? Ok, here is the Con: FHA Mortgage Insurance is higher. A lot higher.
Mortgage insurance is money that borrowers pay into a pool to cover the losses incurred should their loan go into default. For FHA the borrower will have to pay 1.75% of the purchase price in up front mortgage insurance and 1.25% per month in mortgage insurance premium.
For example, let’s say a borrower is buying a house for $100,000 and using an FHA loan. The down payment would be $3,500 (3.5%) and the Base loan Amount would be $96,500. The FHA Up Front Mortgage Insurance would be $96,500 x 1.75% or $1,688.756. FHA will roll this into the loan so you add the upfront mortgage insurance to the Base Loan Amount of $96,500 to get a total loan amount of $98,188.75.
On top of this the borrower will have to pay the monthly mortgage insurance premium of 1.25%, or $102.28. This amount must be paid every month for a minimum of the first 5 years.
Compare this to Fannie Mae (FNMA). For FNMA you need 5% down payment. In the same scenario with a purchase price of $100,000, that would be a $5,000 down payment and a $95,000 Loan Amount. There is no upfront mortgage insurance with FNMA, only monthly. The monthly mortgage insurance amount can vary, but I would expect it to be around .96%. So the borrower would only owe $59.37 per month. The monthly mortgage insurance obligation can be dropped at any time once the borrower has reached 80% loan To Value.
From the comparison it is easy to see that FNMA is a better deal. So why would you ever use FHA? There are several reasons.
· Credit- FNMA requires a minimum 680 credit score. If you are below this you must use FHA
· Down payment- If you do not have 5% down payment you must use FHA
· Bankruptcy and Foreclosure- If you have had either within the last 5 years you must use FHA
Those are the main reasons you would use FHA. It is a great program if you fall into one of those categories. Sure the cost is a little higher for the borrower, but the risk is higher for the lender. In the end it evens out and makes home ownership a possibility for many people.
If you have questions about either program, and how your scenario fits in, please call me at any time.
Jon Hayes, NMLS#: 130501
Mortgage Loan Originator
Hallmark Home Mortgage
9000 Keystone Crossing, Suit 1050
Indianapolis, Indiana 46240