3 Disadvantages of FHA Loans

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Not everyone who borrows money to buy a home has a conventional mortgage. Depending on your situation, you might be interested in an FHA loan.

FHA loans are those backed by the Federal Housing Administration and differ from conventional home loans in several ways. For one thing, conventional mortgage lenders often require a 10% down payment on a home (although some take less). With an FHA loan, you can buy a home with as little as 3.5% down payment.

Plus, the minimum credit score required to take out a conventional mortgage is 620. With an FHA loan, you can get approved with a credit score as low as 580 if you deposit less than 10% of the purchase price. from your house to the fence. . (Technically, the minimum credit score for an FHA loan is 500, but in this case, you’ll need a down payment of 10% or more.)

But while FHA loans can be more flexible than other loans, there are some drawbacks to taking one out. Here are three you should know about.

1. Expensive mortgage insurance premiums

When you borrow through an FHA loan, you must pay an initial mortgage insurance premium which is equal to 1.75% of your loan amount. In addition to this, you will be liable for outstanding mortgage insurance premiums, the cost of which will depend on the amount and length of your loan.

In some ways, this is similar to private mortgage insurance (PMI), which applies to conventional loans when borrowers do not pay at least 20% of the purchase price of a home at closing. But the difference is that the PMI can eventually be canceled once homeowners have gained enough equity in their home. FHA mortgage insurance premiums generally cannot be waived.

2. Less equity to begin with

Being able to put down as little as 3.5% of the purchase price of your home might seem like a good thing. But it also means that you are starting out with little equity in your home. And that could prove problematic if your home’s value drops rapidly. In this case, you may reach a point where you are underwater on your mortgage, meaning you owe your lender more than your home could sell.

Being underwater on a mortgage isn’t necessarily a terrible thing if you can keep up with your mortgage payments and have the intention to stick around. But if you start falling behind on your mortgage payments when you’re underwater, you could end up in pretty bad financial shape – one where you’ll be forced to pursue a short sale or risk foreclosure. Both of these options can damage your credit score and make it difficult to borrow money for years.

3. Refusal of the seller

Since FHA loans come with more stringent guidelines than traditional mortgages, some home sellers may not want to work with a buyer who takes out an FHA loan. If a house sold ends up being appraised at a lower price, it could kill the deal in question, forcing the seller to have to find a new buyer.

Now, a low home appraisal could also be an issue with a conventional mortgage. But FHA loans come with certain appraisal guidelines that actually require appraisers to look for defaults. These guidelines do not necessarily apply to appraisals performed for conventional mortgages.

In this sense, in today’s real estate market where stocks are so limited, bidding wars have broken out all over the place. So if it’s you versus another buyer vying for the same home, and you come up with an FHA loan while your competition gets a conventional mortgage, it could give the other buyer an automatic advantage.

While there are benefits to getting an FHA loan, it’s important that you understand the flip side. Think carefully about your borrowing options when deciding what type of mortgage is best for you.

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