While many people deciding on a loan product
rely exclusively on their lenders recommendation, you should
understand the basic difference between an FHA loan and a
Conventional Loan. The term Conventional Loan includes all loans
under the current FNMA and FHLMC lending limits. Some of these may
be called Conforming, A paper, subprime, Alt A, A Minus, BC (bad
credit) and other industry names.
Most people that have heard of FHA loans tend
to associate them with purchase money transactions. While
purchases are the most common use, FHA loans are also available
for rate and term refinance loans as well as Cash Out refinances.
The main advantage of a fha vs conventional
loan is that the credit qualifying criteria for a borrower are not
as strict as conventional loan financing and the down payment or Equity
requirements are less. In comparing a purchase money FHA loan
against a Conforming or A paper loan, the FHA loan will generally
have the least amount of money required to close and the lower
payment. FHA loans will allow the borrower who has had a few
"credit problems" or those without a credit history to buy a home. An FHA Underwriter will
require a reasonable explanation of these derogatories, but will
approach a person's credit history with common sense credit
underwriting. Most notably, borrowers with extenuating
circumstances surrounding a bankruptcy that was discharged 2 years ago can
be approved for maximum financing. Conventional A Paper financing,
on the other hand, would require 4 years to have passed to be
eligible for consideration and relies heavily upon
credit scoring. If your score is below the minimum
standard, you will not qualify or you will be place in a higher
rate Subprime, Alt A or A minus loan product.
If a borrower does have past credit issues an
FHA loan may be significantly cheaper than an alternative loan
such as subprime, ALT A, or A minus. These other programs
generally have higher interested rate of require a larger down
payment or Equity position. Many of these alternative loan
products have Pre Payment penalties where as FHA loan do not have
such penalties. In fact FHA loans can be easily refinanced under
the
Streamline program.
Another advantage of a fha vs conventional loan
is that FHA is one of the few home mortgage programs that allow a
borrower to have their down payment gifted from a family member, a
governmental agency, or
non-profit organization. This allows home buyers
without the necessary money to buy a home today.
Even though FHA charges an annual renewal
mortgage insurance premium of 0.5% of the loan amount, this fee is
generally half that charged by low down payment Conforming A Paper
conventional mortgages (which range from 0.55% up to .96% per
year). Subprime, Alt A and A minus rates range from 0.55% to
4.18%. For a $100,000 mortgage, FHA would charge approximately
$41.67 per month and a typical low down (3%) conventional mortgage
with a renewal premium of 0.78% would charge $65.00 per month.
That's a $280 savings per year.
However, conventional financing does not
require an upfront mortgage insurance premium when a borrower
closes on the loan. With FHA financing, that fee for a 30 year
loan is 1.50% of the loan amount that the borrower can wrap into
the mortgage. On a $100,000 for 30 years at 8%, that's an
additional $11.01 that the borrower must pay each month. That's
almost an additional $132 the borrower must pay each year
(fortunately the interest a borrower pays on his or her mortgage
on a primary residence is tax deductible).
One drawback to FHA loans is that the loan
limits set for FHA loans are typically less than the
loan limits for conventional financing in most parts of the
country. If a borrower is looking for a mortgage that exceeds the
FHA loan limits for the area, the borrower would have to put
additional money down on the property or finance under a
conventional mortgage, Subprime, Alt A or A Minus product. Under the 2008 stimulus package FHA
loan limits have been raised in many areas and FHA offer
FHA
Jumbo Loans.
