When to turn to an FHA loan

House on mortgage

FHA loans are designed to help home buyers who have more debt, lower credit scores and less cash for a down payment than traditional mortgages require.

Borrowers in more parts of the country have been taking advantage of FHAs since the amount of money you can borrow was significantly increased.

The loan limits for single-family homes range from $417,000 in most parts of the country to as high as $729,750 in high-cost cities such as New York and San Francisco.

The Federal Housing Administration, a division of the Department of Housing and Urban Development, was created 77 years ago to help low- and moderate-income families obtain financing for home ownership.

The agency doesn't actually make home loans. It guarantees repayment to lenders, so they know they won't lose money on the deal.

That lets banks or mortgage companies offer competitive mortgage rates on loans that are easier to qualify for than conventional home loans.

With an FHA-backed loan you can have:

A smaller down payment.

This type of loan requires a 3.5% down payment -- that's $3,500 for every $100,000 you borrow. If your FICO credit score is below 580, you'll have to come with a 10% down payment.

Most mortgages require a down payment of at least 5%, and often as much as 20% of the purchase price.

Your down payment can also be a gift from a relative, friend or an organization that provides financial assistance.

Borrowers are allowed to work with state and local programs that provide help with down payments, closing costs and low-rate loans. Your lender will be glad to explain how these work.

Many conventional mortgages do not allow that, requiring down payment to come from a borrowers' savings or other assets, such as proceeds from the sale of another home.

Surprisingly poor credit.

The government allows lenders to establish their own minimum credit score to qualify, and it's usually quite low, typically between 580 and 620. (Anything below 620 is considered a subprime score.)

Indeed, only two things can automatically disqualify you for an FHA loan. If you've:

Beyond that, there's no strict set of rules for who qualifies and who doesn't. An underwriter at the bank analyzes your finances and makes the call.

To get a loan, you need two things: a two-year history of on-time bill payments and two years of steady employment. Even with these requirements, exceptions are made.

More debt.

To obtain most mortgages, borrowers must be spending no more than 36% of their pretax income on all debts, including mortgage payments, student loans, credit card bills and auto loans.

With an FHA loan, lenders will allow you to spend up to 41% of your pretax income on debt. Some lenders will stretch that to 43% for borrowers with an excellent payment history. (Use your own discretion on whether you should stretch your budget to spend that much of your pay on debt payments.)

The big disadvantage is the mortgage insurance you have to pay upfront. It's the price you pay for having the government stand behind your loan.

All borrowers, regardless of the term of their loan or the size of the down payment they make, must pay the 1% Upfront Mortgage Insurance Premium at closing.

That means that you pay a $1,000 insurance premium on every $100,000.

While that can be added to your loan amount, it's still an extra charge.

Most borrowers will also have to pay monthly insurance premiums, which are comparable to what you would pay for private mortgage insurance on a loan that isn't backed by the Federal Housing Administration.

For a 30-year loan, with a down payment of less than 5%, your premiums will be 0.90% of the outstanding balance each year. If you put more than 5% down, your premiums will be 0.85%.

That cost is typically divided into 12 monthly payments and added to your mortgage payment.

You'll have to carry this insurance for at least five years and the balance on your loan is down to 78% of the original purchase price.

The private mortgage insurance required on standard loans can usually be dropped after achieving 20% equity and making only one year's worth of payments.

Private mortgage insurance also allows you to count appreciation towards obtaining the needed equity. FHA loans do not.

You can apply for this type of loan from most banks and mortgage companies.

Here's where to find the new FHA loan limits in your area.

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