What is an FHA Loan?


In 1965 the Department of Housing and Urban Development (HUD) was formed.  Within HUD operates the Federal Housing Administration (FHA), which has the primary responsibility for administering the government home loan insurance program. This program allows a first time home buyer  who might otherwise not qualify for a home loan to obtain one because the risk is removed from the lender by FHA who insures the loan for the lender.

The most popular FHA home loan program for a first time home buyer is by far is the 203(b).  This is your standard fixed rate loan for 1-4 family owner occupied houses and only requires a minimum of 3% from the borrower.  This loan also permits 100% of their money needed to close to be a gift from a relative, non-profit organization, or government agency.

Income Requirements

In order to qualify for an FHA loan, all income must be analyzed to ensure that it is sufficient to cover the mortgage and other obligation of the borrower. Also, the stability and likelihood of continuance must also be analyzed. Income from any source that cannot be verified, is not stable, or will not continue may not be used in calculating the borrower’s income ratios.

Debt Ratios : On April 13, 2005 HUD increased the allowable debt ratio for manually underwritten loans to 31/43.  Debt Ratios are the relationship between ones income and ones expenses. Ratios are generally expressed as two numbers like 31 over 43 or 31/43. These are now standard FHA ratios. The first number, the 31, represent the relationship between the borrowers income and his new housing expense of principal, interest, taxes, insurance and homeowner dues. A borrower who makes $3,000 per month and has a housing expense of $930 would have a 31% top end ratio.

How much down payment is required for FHA?

In analyzing a borrower’s credit and applying the FHA credit requirement, past credit performance serves as the most useful guide in determining the attitude toward credit obligations. A borrower who has made payments on previous or current obligations in a timely manner represents a reduced risk. Conversely, if the credit history, despite adequate income to support obligations, reflects continuous slow payments, judgments, and delinquent accounts, strong compensating factors will be necessary to approve the loan.

When an underwriter looks at a borrower's Fico Scores/Reports , it is the overall pattern of credit behavior that must be examined rather than isolated occurrences of unsatisfactory or slow payments causing bad credit. If a borrower had a period of financial difficulty in the past, this does not necessarily mean that the loan will be denied, particularly if a good payment record has been maintained since.

How much down Payment is required for FHA loan?

Currently FHA loan down payment rules require the borrower's cash investment in the property must equal a minimum of Three and One Half Percent (3.5%). This is the most motivating reason why Buyers choose to go with FHA when purchasing.

All FHA loan funds must be verified from acceptable sources. If you do not have a down payment saved, please see the section on "Where to Get Down Payment Money".

Beginning January 1, 2009 The Housing and Economic Recovery Act of 2008 revised the National Housing Act to:

• Require that the FHA borrower "shall have paid, in cash or its equivalent...and amount equal to not less than 3.5% of the appraised value of the property..."
• Eliminate the variable FHA loan to value limits that were based on the combination of the property and the average closing cost of the State where the property is located (also known as the "down payment simplification"); and
• Limit the total FHA insured first mortgage to 100 percent of the appraised value, and require the inclusion of the upfront mortgage insurance premium (UFMIP) to be within that limit. 

Understanding where you can get money for your down payment will help you when you are ready to apply for your FHA loan.

Where do you get your FHA down payment money?

Saving to buy a home can be a difficult task.  One of the major attractions to FHA loans is the minimal amount of down payment money a borrower may actually need. Many non-profit and public charity organizations have been created to assist first time home buyers, low to moderate income families, and general home buyers with the purchase of a home.
FHA down payment assistance can be provided in the form of gift funds which means that the money does not have to be repaid.  There are several organizations that provide these gifts and the differences among them are minor. Qualified home buyers can receive between 1% to 5% towards the purchase of the home. 

There are also many state and local programs that may provide assistance to 1st time buyers. You can find out about more of these by talking to your Lender or Realtor.  With the changes to the FHA down payment rules as of October 1st, 2008 you should check on the page on sources of funds for FHA down payments.

FHA Closing Costs

When purchasing a home, you will generally have some closing cost in addition to any down payment. FHA closing costs that may be charged to the buyer are considered "allowable" FHA closing cost per HUD. These are buyer costs that are customary and necessary to close the mortgage. For all loans originated after January 27, 2006 the following table outlines some of the cost.  This is a major change from the past which limited what fees the borrower was allowed to pay.  This change was made to bring FHA loans in line with other traditional loans and make the program more attractive and usable. 

FHA will not allow "mark-ups," i.e., charging a fee to the mortgagor for an amount greater than that charged the mortgagee by the service provider; only the actual cost for the service maybe charged the mortgagor.  You should consult your lender and request a copy of the Good Faith Estimate for charges on your transaction. 

One thing to keep in mind is that the seller of a property may pay up to 6% of the purchase price for buyer closing costs.  This can help reduce the buyer amount needed to close.