There are many different types of loans that borrowers can choose from. One option is an FHA loan, which comes with several advantages over the more traditional, non-government guaranteed mortgages such as conventional loans. In this post, we will compare and contrast these two options to help borrowers decide what type of loan is best for them.
Similarities
FHA loans are similar to conventional loans in many ways. For one, both types of loans require the borrower to pay an up-front fee known as "funding fees" and also require borrowers to become mortgage insurance policyholders at closing through either FHA or private insurers.
The down payment requirements for each type of loan are fairly similar, as well. However, whereas conventional mortgages typically require a minimum down payment of 20 percent, FHA loans require a significantly lower three to five percent.
Differences
FHA loans have slightly different interest rate requirements than conventional mortgages do. Whereas conventional borrowers can borrow at either fixed or adjustable rates, the FHA primarily issues fixed-rate loans.
However, if you do go with an FHA ARM loan, you are limited in some financing options. For example, with FHA loans, temporary buydowns are only permitted on fixed-rate mortgages used to purchase homes. This means FHA borrowers cannot temporarily buy down mortgages if they're refinancing their home or obtaining an ARM mortgage. Permanent buydowns are permitted.
Another area where there are differences between the two loan programs relates to the minimum credit score required. Conventional loans typically require a score of 680 or above, while FHA mortgages will accept borrowers with scores of 580 and sometimes even lower.
Finally, while both types of financing options allow for different down payment assistance programs (including FHA 203(k) rehab loans), another difference is that borrowers who choose an FHA loan can also apply for Down Payment Counseling. This program provides financial education to homeownership-bound individuals to prepare them financially to enter into homeownership.
Benefits of an FHA Loan
The benefits of an FHA loan are many. First, borrowers who choose this type of mortgage have the benefit of lower up-front costs compared to conventional mortgages. Additionally, borrowers can finance funding fees into their monthly payments on these types of loans. Typically, on conventional loans, you cannot finance the closing costs. Closing costs must be paid by the buyer or the seller (as a seller concession).
Another advantage that FHA loans offer over conventional financing options relates to credit requirements. As we mentioned, whereas most lenders require at least 680 or above credit scores for approval on their conventional home purchase transactions, it's possible for borrowers with scores as low as 500 to be approved for an FHA loan.
Finally, and perhaps one of the biggest advantages of an FHA loan over a conventional mortgage is the flexibility that borrowers have with their down payments. Most lenders typically require at least 20 percent down on non-government guaranteed mortgages. However, depending on various factors, you may be able to put down as little as 3.5 percent on an FHA home purchase.
Potential Downsides to an FHA Loan
While FHA loans have many benefits, borrowers should be aware that these types of mortgages do come with some disadvantages, as well. First and foremost, while both conventional and government-guaranteed loan programs allow for 15 and 30-year fixed-rate financing options, an FHA mortgage does not offer “in-between” terms. Borrowers can also use an FHA 5/1 adjustable-rate mortgage (ARM) if they wish, but this can make monthly payments more expensive.
Another potential downside to choosing an FHA loan over a conventional home purchase transaction relates to interest rates. The FHA cannot set interest rates, and if you are qualifying with less than stellar financial credentials, you may end up with a higher rate.
Conclusion
Both types of loans offer great advantages and disadvantages which vary from borrower to borrower depending on personal preferences. And either type can be helpful when purchasing your home. In order for you to find out more about these programs and how they might apply to you as a potential homebuyer, contact us at Texas United Mortgage today so we may answer any questions you have regarding FHA versus Conventional Loans.
The differences between these two kinds of financing are fairly subtle, but they do exist. As such, prospective buyers must compare all their mortgage options before deciding what kind of loan will be best suited to help them. We’re here to help.
