The biggest benefit of FHA loans is the lower down payments that they require. You can qualify for an FHA loan with a down payment of just 3.5% of your home’s purchase price if your FICO credit score is at least 580.
If your score is at least 500, you’ll only need a down payment of 10% of your home’s purchase price for an FHA loan.
You can get one of these loans with a lower credit score
Lenders vary, but you can usually qualify for an FHA loan with a lower credit score. That’s good news for borrowers who might have late payments or other negatives on their credit reports.
Remember, though, that FHA loans are not originated by the government. You’ll work with a private lender to take out one of these loans. Some lenders might require a higher credit score than others, even if you are applying for an FHA loan.
And even though the minimum credit score for an FHA loan is 500, many lenders still won’t approve you for one if you have such a low score.
FHA mortgage insurance
One of the drawbacks of FHA loans? You’ll need to pay both an upfront and annual mortgage insurance premium, otherwise known as an MIP.
This fee pays for mortgage insurance that protects your lender in case you default on your loan. The upfront MIP, which you pay when you close on your FHA loan, normally comes out to 1.75% of your loan amount. If you are taking out a mortgage for $325,000, your upfront MIP would be $5,687.50.
You’ll also pay an annual MIP each year. This amount is based on the length of your mortgage, your total loan amount, your down payment and your loan-to-value ratio. Annual MIPs typically are 0.15% to 0.75% of your base loan amount.
For that mortgage of $325,000, you can expect to pay $2,437.50 each year if your annual MIP is 0.75% of your base loan amount.
You usually must pay your annual MIP for the life of your FHA loan. If you come up with a down payment of at least 10% of your home’s purchase price, though, you can stop making your annual MIP after 11 years.
Is an FHA loan right for you?
Is an FHA loan a smart choice for you? That largely depends on the strength of your credit. If you have a solid credit score — say, 740 or higher — you can probably qualify for a conventional mortgage loan that also requires a low down payment.
A conventional mortgage is a loan not insured by a government agency. With a solid credit score, you can typically qualify for one of these loans with a down payment as low as 3% of your home’s purchase price. You will, however, have to pay private mortgage insurance, or PMI, if your down payment is less than 20%. But PMI is roughly equivalent to an FHA loan’s MIP.
An FHA loan is a good option. But make sure to explore all loan types to find the right mortgage for you.