For some reason, the FHA mortgage program struggles to get past many misconceptions about this program which helps millions buy and finance their first home.
First introduced in 1934 to provide some semblance of stability in the untamed mortgage market, the FHA loan requires just a 3.5 percent down payment and is a favorite of first-time buyers even though the program is not limited to those who have never owned a home. Still, certain perceptions exist. Perhaps it’s because there are more conventional loans being made than FHA loans or maybe loan officers are more familiar with loans underwritten to Fannie Mae and Freddie Mac guidelines. Whatever the reasons, let’s look at some of these myths and how you can turn them around to your advantage.
Myth #1: FHA loans are only for first time home buyers
We just touched on this but this myth just can’t seem to be eliminated. Clearly, there is no restriction for those who have owned a home before or who own now. The primary reason first timers flock to this program is due to the minimum down payment required. FHA loans only need a 3.5% down payment. In addition, and perhaps just as important, first-timers can take advantage of the liberal non-owner occupied income allowance. This means a parent can be on the loan application and the borrowers don’t have to have a minimum contribution other than a $500.
There are certain grants that can be used to assist with the down payment and closing costs and they may, in fact, require the buyers to be first timers, but FHA loans have no such requirement. Even still, the definition of a first-time buyer is someone who has not owned a home within the previous three years.
Myth #2: FHA loans are only for people with poor credit
Not true. What is true is while FHA loans are a bit more forgiving as it relates to credit and credit scores, the program isn’t allotted to those with less than average credit. FHA loans have some very competitive interest rates compared to other programs and are not a mortgage product dedicated to those with somewhat damaged credit.
The fact is that FHA doesn’t require a minimum credit score, lenders do. And lenders are free to set their own minimum credit scores. A common minimum score is 620 although most ask for at least a 580. There are also considerations given to those who scores are even lower as long as the extenuating circumstances that created the damaged credit were out of the borrowers control and the likelihood of the event happening event is practically nil.
Myth #3: FHA appraisals are strict and require extensive repairs by the seller.
We’re not exactly sure where this came from but it’s not that uncommon for a seller to see that an offer to buy comes with a borrower who is using FHA financing. VA loans, another government guaranteed program, do have an additional inspection required called Minimum Property Requirements which is a checklist the appraiser must complete but the FHA mortgage has no additional appraisal requirements. What FHA loans do require is what most other mortgage programs do. For example, if a hot water heater is found to be defective, it will need to be replaced. The property must be considered livable and have basic features any home must have such as running water, a working HVAC system, and a stable foundation.
Myth #4: Because FHA loans are government-backed, it takes too long for the FHA to approve them
FHA loans are indeed government-guaranteed but that doesn’t mean the FHA is directly involved. In fact, the FHA program really isn’t a mortgage at all but a set of guidelines lenders must follow in order to receive the government guarantee. As long as the lender follows proper FHA protocol and the loan eventually goes into default, the lender will be compensated at 25 percent of the loan amount. But the FHA is not involved in any part of the approval process and only gets involved when a loan goes into default. FHA loans take no longer or shorter than any other type of mortgage program.
Myth #5: FHA loans are limited to single family homes and can’t be used to finance a condo
Approving a condo purchase does require the condominium project to be FHA approved but once the project received an approval, all future purchases using an FHA can be used. Individual lenders can approve a project on their own and even the original developer or project manager can get an FHA loan approval. Yet without the approval, this myth is partially correct- an FHA loan cannot be used.
Myth #6: Mortgage insurance on FHA loans can make the monthly payments to the mortgage on behalf of the borrower due to a loss of job or illness
There is a bit of confusion about FHA loans and mortgage insurance. FHA loans have two types of mortgage insurance, an upfront premium and an annual one paid in monthly installments. These two premiums are used to compensate mortgage lenders should a lender be forced to foreclose on the property and are not to benefit the borrowers. Just like any other mortgage insurance, the policy is paid for by the borrowers with benefit to the lender.
Myth #7: FHA has universal guidelines and every FHA lender evaluates an FHA loan application in the same way
Not true. What is true is that FHA provides guidelines that lenders must follow in order to be eligible for the FHA loan guarantee, lenders can also add their own internal requirements called overlays, that can reduce the level of risk to the lender. That means while one lender might approve a loan with a credit score of 600, another lender may not. If a loan gets turned down at one lender, another might be able to help. Conventional lenders can also employ overlays for those loans as well.
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