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For many people their mortgage is their largest debt. Mortgages are the most common way to finance a property purchase and according to Experian, mortgage loan debt in the USA is steadily on the increase. In this chart, using the Experian data, you can see that over the last ten years, mortgage loan debt has increased from $8.2 trillion in 2010 to $9.5 trillion in 2019. Although there was a dip in 2011 and 2012, overall there has been a general upward trend.
If you have too much debt to qualify for a loan or a conventional mortgage, you may consider sidelining yourself to FHA loan. The Federal Housing is a division that was created to help moderate or low-income families borrow money to get home.
But here’s the point:
FHA loans are especially important when compared to other types of mortgage. They are affordable making them very easy to qualify for. Due to these and some several other factors, they are mostly considered by many people.
What is FHA Loan?
The Federal Housing Administration, which is under the Department of Housing and Urban Development's jurisdiction, backs FHA loans. The FHA insures FHA loans, which basically means that if you default on your loan, the agency protects your lender.
FHA loans include low down payment requirements and lower credit score requirements, but you'll have to pay mortgage insurance.
Although you don't have to be a first-time home buyer to qualify, the prospect of a low down payment and more relaxed credit standards might make FHA loans particularly appealing to first-time house purchasers.
How FHA Loans Work?
FHA loans have fixed interest rates and are available in 15- and 30-year durations. The agency's broad underwriting rules are intended to assist borrowers who do not have perfect credit, a high income, or substantial financial reserves in order to become homeowners.
However, there is a snag: borrowers are required to pay FHA mortgage insurance. If you default on the loan, this coverage protects the lender from a loss. When borrowers put down less than 20% on a home, mortgage insurance is required. The borrower must pay two mortgage insurance charges on all FHA loans: an upfront mortgage insurance cost of 1.75 percent of the loan amount and an annual mortgage insurance fee of 0.45 percent to 1.05 percent depending on the loan length.
Most borrowers will have their FHA mortgage insurance premiums canceled after 11 years if they financed 90% or less of the property's value (in other words, paid at least a 10% down payment) and make on-time monthly mortgage payments. Until the mortgage is entirely repaid, loans with an LTV ratio more than 90% will be insured. Closing expenses, which are the fees connected with originating the loan, are limited to no more than 3% to 5% of the loan amount for FHA lenders.
7 Steps To Getting An FHA Loan
Basically, these loans are meant to help low-income families but that doesn't mean that you can't take advantage of this free opportunity.
Keep in mind:
FHA loans are not the perfect loans out there. However, as you are going to find out, they are a great fit in some situations. Leaving aside all another attracting factor, they make it easy for you to acquire a property. However, keep in mind that the benefits have some trade-offs.
Let’s look at it in detail:
Step 1: Qualifying For The FHA Loans
It is simple, very convenient and you are going to like it. First up, the FHA loans for most people are not that strict. This is when compared with the normal loans. There are requirements that you need to meet if you are to qualify for the loan. However, to loosen you up, note that, you can still miss to achieve the requirements and still be potentially considered for the loan.
Before going on further, it is best to note that the FHA doesn't make home loans. It guarantees that the lenders will be repaid if you default the loan. This guarantee allows the banks and mortgage companies to work with the borrowers who may not be able to qualify for conventional home loans.
So how do you qualify for the loans?
First, you have to prove that you are employed. In most cases, you have to show that you have 2 years of steady employment. In addition to that, your credit score should be convincing. Something close to 620 should be enough. Nevertheless, those whose score is 580 can be still considered.
To be qualified for the loan, you cannot have a declared bankruptcy state for the last 2 years. Still, you mustn't have a foreclosure for the past 3 years. Also, if you are looking to buy a house with a loan, then the house has to be your primary residence. Lastly, you must be able to make a down payment. This is usually 3.5% of the total loan.
This means that if the house that you are purchasing is $100,000, you will need to make a down payment of about $3500. the average down payment on an FHA loan is about 4%. Comparing this with the normal conventional loan, it is less by 20%. Therefore, this makes FHA loans better and convenient.
Step 2: Get An FHA Lender
Earlier, we mentioned that the FHA doesn't make the loans. It insures the loan. If you need a loan, then you will have to make several contacts with the lenders. This includes but not limited to mortgage brokers. After finding your contact, ask them if they are qualified to offer the FHA loan.
Keep in mind:
Some lenders can set standards that stricter than the FHA requirements. Therefore, have an open mind. If you having trouble with a lender, then it is better to find another one. In addition to that, note that not just any lender can offer the FHA-approved loans, only the federally approved.
Step 3: Have Your Down Payment Ready
This is an advantage that makes most of the people consider these loans. The FHA loans allow you to buy a home with a down payment as small as 3.5%. if you look at a normal loan, the down payment comes to about 20%-22% which is seriously very high.
While the FHA might require only a small percentage of the down payment, it is absolutely necessary, you cannot skip it.
Whilst the conventional loans will only finance 80% of your loan, the FHA loans are special since it's a guarantee of 96.5+% in financing. More than 70% of the people will agree that this is better in comparison to the normal loans. It is a requirement to pay the amount. It is no exception.
In most cases, it becomes easy to use gifts for down payment or even the closing cost. The seller can be able to pay more than 5% of the loan. This is generally towards the buyers closing costs. As a borrower, you may benefit from these activities in a buyer's market. However, they do come from time to time.
Step 4: Get A Mortgage Insurance
This is absolutely necessary. Since you are supplying less than 5% of the cost of the loan. This makes your loan at a huge risk to the lender. Therefore, the law requires you to have a mortgage insurer to protect the lender.
In case by any chance you default the loan, then the insurer will cover up the loan. As a result, this makes it very important to have a mortgage insurer. In finding the mortgage insurance, you need to check the different rates in your area. If you need better results, start with your lender (and don't forget to ask the right questions!) .
The good news:
When it comes to financing your mortgage insurance premiums, FHA loan requirements state that you can finance only the upfront portion. What you cannot be able to finance is only the annual mortgage insurance premium. If you consider the average FICO score for the buyers who finance FHA loans, this comes roughly to about 620-680, lower than conventional loans. what if you have a lower score than 600?
The successful applicants have proved a certain qualification. Mostly, proving to have steady employment. Or even if you are self-employed, just hand in your tax returns and financial statements. Therefore, you can still be qualified with a lower credit score (If that's the situation – read our article about how to achieve a great credit score). The average borrower with a new FHA loan can spend 28% of their gross and pretax income on housing costs only. Everything else is just association fees.
The homeowners can also spend 43% of their income paying all their debts. These include the housing cost, car, and student loans. Comparing this to the conventional buyer, they can only spend 23% of their income on housing and 35% on recurring debts. Considering the interest rates, they are lower compared to conventional loans. Therefore, you need to seriously consider FHA Funding. Don't forget – the interest you pay on your debt can quickly become very expensive. You can use this calculator to help determine just how expensive your debt has become.
Step 5: Have Your Documents Ready
For you to be considered for the loan, you will need to supply your lender with the necessary documents. These will prove your employment status, your savings, your credit, and personal information. All the documents required include;
- Contact information of your landlord
- Two years of W-2, 1099's, or other income statements
- The most recent month of pay stubs
- Social security card
- Two years of complete tax returns
- Most recent three months of bank, retirement, stocks, and/or mutual fund statements (all accounts and all pages)
- Individuals without credit will need recent copies of utility bills
- Bankruptcy and discharge papers (if applicable)
- Cosign information.
- Driver's license
- Credit information (most recent statements)
- Green card or work permit.
- Self-employed individuals will need three years of tax returns and a year-to-date profit/loss statement
After submitting the required documents, you are ready for the final step.
Step 6: Complete The Loan Application
After you have submitted the required documents, your lender will be able to provide you with the application documents. Make sure you read it carefully and understand all terms and conditions.
There are several areas of an FHA inspection and a defect in any of these can cause an inspection to fail. The areas include:
- The roof: It must be sturdy with a reasonable expected lifespan of at least two years.
- Structure: The structure must be good enough for safe occupancy. This means that termite damage, damp, decay, leakage or structural damage may cause an inspection failure.
- Utilities: Each room needs to have access to adequate heating with water and electricity.
- Safety: Any safety hazards located in and around the property may cause a failure.
- Location: The area needs to be free of location nuisances such as a heavy traffic area, proximity to an airport or other sources of excessive noise or gas and oil sources on the property.
- Access: Finally, the home must have access for pedestrians and vehicles under all weather conditions.
90% of the people who lie to the federal do not get a qualification for the loan. In case you do not know something, it is not wrong to look it up. Some of the people actually more than 70% that is 7 in 10 people are those who want to get a pre-approval. 30% of those who get pre-approvals get denied the loan.
Therefore, this only means that pre-approval doesn't guarantee you anything. A lender will still want to pass the inspection before giving out the loan.
Step 7: Final Arrangements To Get The FHA Loan
After getting everything ready, completing the application, handing down your papers, there is nothing more left. However, before submitting your documents, it is best that you review everything before putting a mark on the final papers.
There are still closing costs with an FHA loan, which can add up to 2% to 4% of the loan amount. The specific costs will depend on a variety of factors including your lender fees, credit score and loan amount.
However, it is possible for some closing costs to be rolled into the loan. There are FHA guidelines about this, so you will need to check what can and cannot be covered. Additionally, the down payment is not included in your closing cost calculation, which is usually a minimum of 3.5%.
How to Get FHA Loan - FAQs
There are two main reasons why sellers can be hesitant about buyers with FHA loans. Both of these reasons are related to the strict guidelines associated with these government insured loans.
For example, if the home is appraised and the value is less than the agreed price, the seller needs to reduce the price to match or the deal will not go through. This differs from conventional loans, where the buyer has an opportunity to renegotiate.
The other reason is that the guidelines require that appraisers look for certain defects. This includes issues such as safety handrails on open staircases with more than three stairs, any cracks in concrete that could be a trip hazard need to be fixed and appliances and floor coverings need to have at least two years of useful life remaining. If any of the defects are identified, the seller is required to repair them prior to the sale.
FHA deals are not solely limited to first time buyers. It is possible to obtain finance for a new home with a FHA mortgage. The reason many people assume that FHAs are just for first time buyers is because of the low down payment requirements, but if you have little or no equity in your current property, you may be able to use an FHA loan for your next home. However, these loans are only for a primary residence, so they cannot be used for a second home.
Generally, FHA loans can be quicker to close compared to conventional mortgages. The average time to close with an FHA loan is 32 days after the loan application is submitted. However, there may be cases where additional time is needed for specific issues throughout the process.
There is a period during the house buying process where you may be cleared to close, but the loan may still be denied. This is called the cleared to close phase, which signifies the approach of the closing date, but the lender still needs to finalize the loan paperwork. So, if the lender rechecks your credit and your circumstances have changed, the loan may be denied.
However, once you have signed your loan documents and closed on the deal, it is legally binding.
There are six key areas of an FHA appraisal.
- The structure: It is examined to ensure it is sufficient for safe occupancy. The inspector will check for termites damage, decay, damp, leaks or other structural damage.
- The roof: It needs to be sturdy with an expected lifespan of at least two more years.
- Utilities: The property needs to have access to electricity and water. Additionally, each room needs access to adequate heating unless the area typically has very mild winters.
- Safety issues: The inspector will check for safety hazards such as trip hazards that may compromise the safety of the property.
- Local nuisances: The property needs to be in an area with no nuisances such as proximity to sources of excessive noise, heavy traffic or gas or oil sources on the property.
- Access: The home must have pedestrian and vehicle access, particularly for emergency vehicles under any weather conditions.
It is not particularly hard to get an FHA loan, but you do need to meet the requirements. You will need at least 3.5% of the purchase price as a deposit, 43% debt to income ratio and a credit score of at least 580. This makes FHA loans easier to get compared to a conventional mortgage for most applicants.