For individuals buying their first home they find there are some key advantages to using a FHA loan since loan requirements for borrowers are less strict than for obtaining a conventional loan. With a lower down payment requirement and a lower credit score criteria homeowners may find using a FHA loan is the only way they can qualify to purchase a home. For a detailed explanation and a comparison of Conventional Loans versus FHA Loans click here. However, there can be some disadvantages to using a FHA loan and it is important to be aware of the extra costs or complications that can arise:
- FHA Appraisal – Lenders will require an appraisal on a home purchase. The bank needs to know that the home is worth the amount being paid. However the FHA loan requires their own appraisal and that may become an issue. As part of the FHA appraisal it is possible that a home that has safety concerns will not be approved for the loan. The lender may ask to see the inspection report and then the FHA appraisal will often be subject to repairs being completed. For example: missing or insecure handrails, an improperly installed hot water heater, a garage door opener that is installed incorrectly, missing or inoperative smoke detectors, etc. The buyer may either negotiate to have those items repaired by the seller or may have them repaired at their own cost before closing on the home. If the repairs cannot be negotiated and repaired before closing then the loan may fall through. This can be very discouraging to a client who has already paid for a home inspection and appraisal only to have to cancel the sales contract and walk away from their home purchase because the repairs cannot be negotiated. Buying a foreclosure or short sale may raise a red flag due to the possibility of high cost of these types of repairs and the seller possibly being unwilling/unable to make the repairs.
- Monthly Mortgage Insurance – Many borrowers who choose a FHA loan do so because they can purchase a home with little money down. FHA requires only 3.5% down. However, as a condition of the FHA loan all borrowers must pay mortgage insurance as part of their monthly mortgage payment. Borrowers using a conventional loan will also pay a fee called Private Mortgage Insurance (PMI) but only if they are putting less than 20% down. ALL borrowers using a FHA loan must pay the mortgage insurance premium (MIP). And in most cases the premium is in place for the life of the loan. Again, for borrowers who have less money available for a down payment this extra fee may be worth it because they are able to purchase a home that they otherwise would not qualify for. FHA has just announced that for active FHA case numbers starting January 26, the monthly premium has been lowered for anyone using a FHA loan. The rate has been lowered from 1.35% to 0.85%.
- Upfront Mortgage Insurance Fee – Besides the monthly mortgage insurance premium there is also an upfront cost for the FHA loan paid at closing. Under the FHA’s new plan for 2015, UFMIP is equal to 1.35% of your loan. The mortgage insurance premiums have been lowered for the first time since 2001 which is great news for borrowers. Of course, if a borrower is putting 20% down on a home and/or has excellent credit, using a conventional loan may make more sense since they may be avoiding these types of fees.
- Loan Limits – Loan limits vary depending on low cost or high cost areas. For example for the Charlotte/Mecklenburg county areas the loan limits are $271,050 for a one family home. In comparison the maximum loan for a conforming conventional loan is $417,000. Depending on the price range of home you are looking to purchase, a conventional loan may be a better choice.
Diane and William Kradel