Buying a home can be an exciting experience. However, before you start shopping for the perfect place to live, it's a good idea to understand what type of place it is Mortgage loan You'll be using it to finance your purchase – this could impact your potential interest rateminimum Initial paymentAnd more.
Two of the most popular home loan programs, especially for… First time home buyersare FHA and conventional loans. Both types of mortgages have benefits and drawbacks. So, if you're trying to decide whether an FHA loan or a conventional loan makes the most sense for your financial situation, the following guide will help you compare these financing options.
Learn more: Compare FHA mortgage rates today.
What is an FHA loan?
An FHA loan is a type of government-backed mortgage. The Federal Housing Administration, a division of the U.S. Department of Housing and Urban Development, insures these home loans, but does not issue them. If you want to apply for an FHA loan, you will need to find an FHA lender.
Because the federal government backs FHA loans, there is less risk for the lender if the buyer defaults. Therefore, the requirements tend to be easier to meet for FHA loans — making them an attractive option for borrowers with lower credit scores as well as for homebuyers who may struggle to come up with a large down payment.
Learn more: How to buy a house with bad credit.
What is a conventional loan?
A conventional loan is a mortgage loan available without any backing or insurance from the federal government. If you qualify, you can get these private home loans from a variety of banks, credit unions, and other lenders. But you usually need at least… Fair credit score To qualify for this type of mortgage. In some cases, you may need a slightly larger down payment to be eligible for a conventional loan as well.
Although conventional loans do not receive government backing, some conventional loans must follow rules set by the Federal Housing Finance Agency (FHFA), including borrowing limits. These are called conforming loans. But non-conforming loans, incl Huge loansYou do not have to follow FHFA rules.
Learn more: What credit score do you need to buy a home?
Key Differences Between FHA vs. Conventional Home Loans
Both FHA and conventional loans have their own requirements you must meet to qualify for financing. In general, FHA loans have more forgiving approval standards compared to conventional loans when it comes to factors such as Credit scores And advance payments. Meanwhile, loan limits on conventional loans can provide more flexibility depending on how much you want to borrow.
Here are some of the main differences between FHA and conventional loans.
Credit score requirements
Many FHA lenders will work with borrowers who have… FICO score of 580 or higher. Some lenders may be willing to accept applicants with credit scores as low as 500 — but in this case, the borrower will need to make a down payment of at least 10% instead of the usual FHA loan minimum of 3.5%.
For conventional loans, some lenders may approve borrowers with a FICO score of 620 or higher. However, other lenders may require a score of at least 660.
Initial payment
It's possible to get an FHA home loan with a down payment of up to 3.5% if you have a FICO score of 580 or higher. However, lenders who accept borrowers with lower credit scores (say, in the 500 to 579 range) are expected to require a 10% down payment instead.
In comparison, There are conventional loan options for a lower down payment First-time homebuyers with down payments of up to 3%. Otherwise, the minimum down payment requirement for a conventional mortgage can range from 5% to 15% depending on the details of your loan. And if you want to avoid paying Private mortgage insuranceyou will need to provide your lender with a down payment of 20% or more.
Learn more: What is down payment assistance and how do you get it?
Interest rates
FHA loans may be attractive Mortgage interest rates Compared to traditional loans because government support for the loan reduces the risks to the lender. But the rate a lender offers you on any type of mortgage can vary depending on the market and the details of your loan.
Risk factors such as your credit score, debt-to-income (DTI) ratio, down payment, term of the loan, and whether you have a fixed interest rate or Adjustable rate mortgage It can also play its role.
Loan limits
The FHA sets new loan limits each year that determine the maximum amount you can borrow using this loan program. If you're interested in using an FHA loan to buy a home, it's important to know the FHA loan limit for your area. Loan limits vary by county, you can visit the website HUD website To check the FHA mortgage limit for different locations.
For 2024, the FHA upper limits are as follows.
- Low-cost counties: $498,257
- High-cost counties: $1,149,825
Conventional loans also meet loan limits, but they are higher than FHA loan limits in many areas. If you're interested in a higher-ticket property, a conventional loan may be better suited to your situation in some locations. For 2024, the range of conforming conventional loan limits is $766,550 to $1,149,825 (in high-cost areas).
The loan limits on conventional conforming loans stem from efforts by the Federal Housing Finance Agency (FHFA) to maintain stability in the housing market.
Fannie Mae and Freddie Mac—collectively called government-sponsored enterprises—set requirements for the mortgages (i.e., conventional loans) they purchase from lenders. The FHA regulates public sector institutions and sets loan limits on conforming loans to help prevent excessive borrowing and foreclosures, and to help public sector institutions avoid financing unaffordable mortgages that may pose too much risk.
Keep in mind that borrowers can also apply for traditional non-conforming loans, called jumbo loans, if they need to borrow beyond available loan limits. However, jumbo loans usually have more stringent qualification criteria because a larger loan size may increase the risk involved with the lender.
Mortgage insurance
Mortgage insurance is a policy that provides the lender with protection in the event you default on your home loan. With an FHA loan, the lender will require you to pay two types of mortgage insurance – up front and annually.
The Upfront Mortgage Insurance Premium (UFMIP) for an FHA loan is typically 1.75% of your principal loan amount. You can add this cost to your loan amount if you do not have the funds available for a down payment. Annual mortgage insurance premiums (MIP) generally range from 0.45% to 1.05% of the loan amount. Your lender will divide your MIP into 12 installments and add it on top of your monthly mortgage payment.
Conventional loans can also require private mortgage insurance (PMI) to protect the lender's investment. But if you're able to come up with a 20% down payment on your conventional loan, you should be able to avoid this extra cost.
PMI premiums can vary based on several factors. However, Freddie Mac estimates that PMI could cost between $30 and $150 per month for every $100,000 you borrow.
Ready meals
FHA and conventional loans represent two different paths to homeownership. The best home loan option for your situation depends on a variety of factors, including your creditworthiness, your ability to save a down payment, and the amount of money you need to borrow to purchase the property you want.
It is important to do your research and explore different loan options before applying for a mortgage. You may want to consider other loan alternatives as well, including… VA Loans And USDA loans, depending on your situation. Keep in mind that a reputable lender should also be able to provide you with guidance and help answer your questions as well.
However, an FHA loan may be the option you need to get into your new home — especially if you have a low credit score that could make it difficult to get a conventional mortgage.
