FHA loan requirements
Borrowers need to meet certain requirements for an FHA loan primarily to ensure that they are capable of consistently making their mortgage payments and to protect the lender from potential default. The Federal Housing Administration (FHA), which is a part of the U.S. Department of Housing and Urban Development (HUD), insures these loans, reducing the risk for lenders.
Here are some key reasons why specific requirements are imposed:
- Credit Score Requirements: FHA loans require a minimum credit score, which serves as a basic measure of a borrower’s creditworthiness and their ability to manage and repay debts. This helps in assessing the risk of loan default.
- Debt-to-Income Ratio (DTI): This ratio is crucial because it helps determine whether a borrower has enough income to cover their monthly mortgage payments alongside their other debts. A lower DTI ratio suggests a better balance between debt and income, indicating a higher likelihood of managing loan payments effectively. Read more about debt ratio >> How debt to income ratio works
- Down Payment: FHA loans typically require a smaller down payment compared to conventional loans. However, a minimum down payment is still required to show the borrower’s investment in the property and to reduce the loan-to-value ratio, which also reduces risk for the lender. There are loan options available with no down payment, but they generally come with stricter qualifying requirements and higher interest rates.
- Mortgage Insurance: Borrowers must pay for mortgage insurance on FHA loans, which protects the lender in case the borrower defaults. This insurance is a requirement due to the lower down payment and higher risk associated with these loans.
- Property Standards: FHA loans require that the property being purchased meet certain safety, security, and soundness standards. This ensures that the property is a sound investment and suitable for living, which is important for both the borrower’s quality of life and the property’s value as collateral for the loan.
Requirements that need to be met for an FHA loan
Borrowers need to meet several specific requirements to qualify for an FHA loan. These requirements are designed to ensure that the loan is a safe investment for both the lender and the borrower.
Credit Score
Borrowers need a minimum credit score of 580 to qualify for the FHA’s low down payment advantage, which is currently at 3.5%. If a borrower’s credit score is between 500 and 579, they can still qualify, but they’ll need to make a down payment of at least 10%.
Down Payment
As mentioned, the minimum down payment required depends on the borrower’s credit score. This down payment can come from savings, a financial gift from a family member, or a grant for down payment assistance.
Debt-to-Income Ratio (DTI)
The DTI ratio is another crucial factor. Generally, the FHA requires a DTI ratio of 43% or less; however, it is possible to get approved with a higher DTI ratio if other factors, such as a good credit score or additional savings, are present.
Primary Residence
FHA loans are typically for primary residences only, meaning the borrower must intend to live in the home. This requirement is to discourage investors from using these loans to buy properties purely for rental or resale purposes.
Mortgage Insurance
Borrowers must pay two types of mortgage insurance: an upfront mortgage insurance premium (UFMIP) and an annual mortgage insurance premium (MIP) that is usually added to the monthly mortgage payment. This insurance protects the lender from losses in the event of a default.
Property Appraisal
The property must be appraised by an FHA-approved appraiser and must meet HUD property guidelines. These guidelines ensure that the property is safe, secure, and a sound investment.
Employment Verification
Borrowers must have a steady employment history or have been working for the same employer for at least the last two years.
Income Verification
Income must be verified through pay stubs, federal tax returns, and bank statements to ensure the borrower has the ability to repay the loan.
Rental Verification
Borrowers may need to provide evidence of on-time rental payments for the past 12 months or longer. This helps demonstrate a history of reliable payment habits, which supports their application.
What More to Know About FHA Loans
Comparison with Other Home Loans
Here’s a detailed comparison between FHA loans and other popular financing options like conventional loans, VA loans, and USDA loans:
1. FHA Loans
- Credit Score Requirements: Lower credit score requirements (minimum 580 for a 3.5% down payment).
- Down Payment: Minimum down payments as low as 3.5%.
- Mortgage Insurance: Requires both upfront and annual mortgage insurance premiums, regardless of the down payment amount.
- Loan Flexibility: More forgiving of past financial difficulties like bankruptcy and foreclosure.
- Property Standards: Properties must meet specific health, safety, and structural integrity standards.
2. Conventional Loans
- Credit Score Requirements: Typically require a higher credit score (usually 620+).
- Down Payment: Down payments can vary from 3% to 20% or more, with better rates often available to those who can afford higher down payments.
- Mortgage Insurance: Required if the down payment is less than 20%; can be removed once equity reaches 20%.
- Loan Flexibility: Less flexible regarding credit history and past financial issues.
- Property Standards: Generally less stringent than FHA, allowing for the purchase of “fixer-upper” properties more easily.
3. VA Loans (Veterans Affairs)
- Credit Score Requirements: Varies by lender, but typically the same as FHA loans.
- Down Payment: No down payment required.
- Mortgage Insurance: No mortgage insurance, but a funding fee is required unless waived due to a disability related to service.
- Loan Flexibility: Available only to veterans, active-duty military, and certain military spouses. Offers options for refinancing and can be used more than once.
- Property Standards: Must meet VA’s Minimum Property Requirements (MPRs) for safety and structural integrity.
4. USDA Loans (U.S. Department of Agriculture)
- Credit Score Requirements: Generally requires a credit score of 640 or higher.
- Down Payment: No down payment required.
- Mortgage Insurance: Lower mortgage insurance costs than FHA loans.
- Loan Flexibility: Available only in eligible rural areas and to borrowers who meet specific income criteria.
- Property Standards: Must be located in a USDA-eligible rural area and meet specific quality standards.
FHA Loan Limits
Be aware of the loan limits that apply, which can significantly vary depending on where you are looking to purchase a property. The Federal Housing Administration (FHA), part of the U.S. Department of Housing and Urban Development (HUD), sets these limits to reflect the cost of living and housing prices in different areas across the country.
What Are FHA Loan Limits?
FHA loan limits are the maximum amounts that borrowers can receive from an FHA loan and these limits differ based on the geographic area and type of property.
2024 FHA Loan Limits
For 2024, the FHA loan limits have been updated to further accommodate the rising home prices across the United States.
Here are some key updates:
If the price of the home exceeds the local FHA loan limit, borrowers may need to:
- Consider a different type of financing. Read more: government backed loans
- Make a larger down payment to cover the difference,
- Or look for properties within the applicable loan limits.
Student Loan Requirements
FHA loans have specific guidelines regarding how student loan debt is considered in the mortgage approval process.
Treatment of Student Loans: As of the most recent updates:
If the student loan is in deferment or forbearance, FHA guidelines require lenders to calculate either:
- 0.5% of the outstanding loan balance and use this figure as the monthly repayment amount when determining the DTI ratio.
- The actual monthly payment after deferment, if this amount is available.
- For loans with income-driven repayment plans, lenders are allowed to use the actual monthly payment, even if it’s zero, as long as it can be verified that the payment amount is set to continue for 12 months or longer under the terms of the repayment plan.
Read more: FHA student loan guidelines