FHA versus Conventional Loans

This guide will cover the comparison between FHA versus Conventional loans. Many folks with excellent credit scores assume they must choose a conventional loan instead of other loan programs. They often assume FHA loans are for folks with bad credit or first-time home buyers. However, that is not often the case.

Conventional loans do have stricter underwriting guidelines than FHA loans. Often, a person with excellent credit cannot qualify for a conventional loan but can qualify for an FHA loan. An FHA Mortgage might be their only option. We will discuss the pros and cons of an FHA versus conventional loans. Conventional Loans will benefit borrowers with high-balance student loans.

IBR Student Loan Payments are allowed on FHA and Conventional loans. Conventional Loans will benefit borrowers with a mortgage included in Chapter 7 Bankruptcy, but the housing event was not finalized until later.

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Benefits Of FHA Versus Conventional Loans

The Federal Housing Administration mortgage loan program is an excellent mortgage outlet. HUD aims to promote homeowners for first-time home buyers and borrowers with less-than-perfect credit. FHA loans are the best mortgage loan option for first-time homebuyers, borrowers with bad credit, and homebuyers with credit scores down to 500 FICO.

HUD, the parent of FHA, makes homeownership affordable for first-time homebuyers and for home buyers who have had prior bad credit, bankruptcy, foreclosure, and high debt-to-income ratio. FHA loans have much leaner underwriting criteria and more options to borrowers.

FHA Loans only require a 3.5% down payment for borrowers with at least 580 FICO to qualify for FHA loans. Borrowers with under 580 credit scores and down to 500 FICO can qualify for FHA loans with a 10% down payment. FHA has very lenient guidelines for borrowers with bad credit. Outstanding collections and charge-off accounts do not have to be paid off to qualify for FHA loans.

FHA Loans Permit Non-Occupant Co-Borrowers

One feature of an FHA and conventional loans is that it allows non-occupant co-borrowers. However, if the non-occupant co-borrower is not related to the main borrower by law, blood, or marriage, HUD requires the main homebuyer put down a 25% down payment versus a 3.5% down payment. Fannie Mae and Freddie Mac does not have such rules on non-occupant co-borrowers being related to the main borrower by law, marriage, or blood.

Under HUD Guidelines, non-occupant co-borrowers can be added to the main borrower to qualify for income for high debt-to-income ratios. However, under HUD Guidelines, non-occupant co-borrowers must be related to the main borrower by law, marriage, and blood for 3.5% down payment FHA Loans.

If the non-occupant co-borrower is not related to the main borrower by law, marriage, or blood, then the home buyer can still add them, but a 25% down payment is required versus 3.5%.

Non-Occupant co-borrower’s guidelines on FHA versus conventional loans

Conventional loans allow the main borrower to add non-occupant co-borrowers. The difference in non-occupant co-borrower mortgage guidelines between FHA versus Conventional loans is FHA loans require non-occupant co-borrowers to be related by law, marriage, or blood. Conventional loans do not require non-occupant co-borrowers to be related to the main borrower by law, marriage, or blood.

Another benefit of FHA versus conventional loans is FHA loans allow borrowers in an active Chapter 13 bankruptcy repayment plan to qualify for FHA loans while in a repayment plan. The bankruptcy does not need to be discharged.

The maximum debt-to-income ratio requirement on conventional loans is 50%. There are no front-end debt-to-income ratio requirements on conventional loans. The front-end debt-to-income ratio on FHA loans is 46.9% front-end and 56.9% back-end for an approve/eligible per automated underwriting system findings. Another difference between FHA versus Conventional loans is FHA loans allow manual underwriting while conventional loans do not.

Private Mortgage Insurance Versus FHA Mortgage Insurance Premium

An advantage of a conventional loan versus an FHA loan is that private mortgage insurance is no longer needed if you have 20% equity in your home. FHA loans require mandatory one time upfront FHA MIP and a lifetime 0.55% annual FHA mortgage insurance premium for the life of a 30-year fixed-rate mortgage loan.

Starting June 3, 2013, the mortgage insurance premium is required on all FHA mortgage loans throughout the life of the loan. FHA had a previous guideline where a homeowner with a 30-year fixed rate FHA loan who has been paying on their FHA loan for the past 60 months and has a 78% loan to value could have the monthly mortgage insurance premium waived.

That will no longer be the case starting June 3, 2013. HUD recently reduced FHA loans’ annual mortgage insurance premium from 0.85% to 0.55%. The annual FHA mortgage insurance premium is generally lower than Fannie Mae’s private mortgage insurance premium on conventional loans.

Mortgage Insurance on FHA Versus Conventional Loans

HUD, the parent of FHA, recently lowered the annual FHA mortgage insurance premium from 0.85% to 0.55%. Comparing FHA versus conventional loans, FHA mortgage insurance is cheaper for borrowers under 700 credit scores. However, FHA loans have a hefty one-time upfront FHA mortgage insurance premium of 1.75% which is rolled into the FHA loan balance.

However, borrowers with over 700 credit scores will most likely have lower mortgage insurance on conventional loans versus FHA’s 0.55% annual FHA MIP. You need to be a higher credit score borrower to have the monthly mortgage insurance factor on conventional loans to be less than the 0.55% FHA annual mortgage insurance premium.

The monthly mortgage insurance factor with a conventional loan varies depending on the mortgage loan borrower. Still, it is safe to assume that a factor of 0.70% of the mortgage loan amount can be used as a general guideline for a conventional mortgage loan factor. However, with an FHA mortgage loan, 0.55% of the FHA loan amount is the factor. no matter what the borrower’s credit scores are on FHA loans. 0.55% of the FHA mortgage loan amount will be charged as the mortgage insurance premium every year throughout the life of the FHA mortgage loan.

Mortgage Rates Are Lower For FHA Loans

Advantage of fha versus conventional loans is that conventional mortgage rates are generally lower on FHA versus conventional loans. Current conventional mortgage rates are at 7.25%, whereas starter mortgage rates on FHA mortgage loans are at 6.25%.

As discussed earlier, tougher underwriting criteria apply to conventional versus FHA loans.
There is a 2-year waiting period to apply for an FHA loan after Chapter 7 Bankruptcy.
There is a 3-year waiting period after a foreclosure, deed-in-lieu of foreclosure, or short sale to qualify for FHA loans.
However, with a conventional loan, the minimum waiting period is at least four years after a short sale and deed-in-lieu of foreclosure.
There is a seven-year waiting period to qualify for conventional loans after a foreclosure.
There is a four-year waiting period to qualify for conventional loans after the Chapter 13 Bankruptcy dismissal date.
There is a two-year waiting period after the Chapter 13 Bankruptcy discharge date to qualify for conventional loans.

Most conventional mortgage lenders do not lend to conventional mortgage loan borrowers after a 7-year waiting period has elapsed after they have had a foreclosure.

Credit Standards Are Higher For Conventional Loans

Credit score minimums are stricter on a conventional loan versus an FHA loan. The minimum credit score requirement for conventional loans is 620 FICO. The minimum credit score requirement for a 3.5% down payment FHA loans is 580 FICO. Borrowers under 580 and down to 500 FICO can qualify for FHA Loans with a 10% down payment.

FHA Versus Conventional Loans on Student Loan Guidelines

Borrowers with high student loan balances and income-based repayment can go with conventional or FHA loans. FHA and conventional loans allow for income-based repayment plan on student loans. HUD, Fannie Mae and Freddie Mac allow IBR Payments that report on the borrower’s credit report. HUD recently allowed IBR payments after Fannie Mae and Freddie Mac’s lead.

HUD requires a fully amortized monthly payment over an extended term (25 years or longer). Or for those who are on an IBR Payment or have student loans in deferment, FHA must take 0.50% of the outstanding student loan balance and use that figure as a monthly hypothetical debt. The same applies to conventional loans on deferred student loans.

If you have any questions on the advantages and disadvantages of FHA versus conventional loans, please get in touch with the team at Mortgage Lenders For Bad Credit at 800-900-8569. Text us for a faster response. Or email us at gcho@gustancho.com.