Our last discussion centered around privately held mortgage lending, which is probably what most people think of when they begin thinking about financing a new home. However, once borrowers meet with their trusted loan officer (ask family, friends, or your realtor for local recommendations) they often realize there are other lending options that might be a better fit. One size certainly does not fit all in the mortgage world. That is why it’s important to understand each type of financing option and how it applies to your specific needs.
The FHA loan is a great example of a very popular type of financing that many people don’t think about. The FHA loan — FHA meaning the Federal Housing Administration — is actually the largest insurer of residential loans in the world. The Federal Housing Administration has been around since 1934 and has insured tens of millions of loans in the decades since in the United States and its territories. As a division of the U.S. Government’s Department of Housing and Urban Development, the FHA doesn’t actually lend the money to borrowers. Its purpose is to insure the loans issued by approved banks. As a home buyer, your financing is still being provided by your local bank, but the FHA loan gives that bank extra insurance in the form of mortgage insurance, which ultimately is paid for by the borrower over the life of the loan.
This extra insurance from the FHA allows banks to lend to borrowers with less stringent guidelines to qualify for financing, and FHA loans often have attractively low interest rates as well. Initially, the purpose of the FHA loan was to provide a way for low-income and first-time buyers to purchase a home they couldn’t otherwise afford with traditional financing. As long as borrowers met the qualifying requirements of employability, job stability, and reliability, they could get an FHA loan to purchase their home.
In today’s market, there are more specific guidelines to qualify for FHA financing. Current requirements cover items like mortgage lending limits, debt-to-income ratios, and even closing costs for a particular property. The FHA determines the amount the buyer qualifies for because it reduces the risk for lenders who issue the loan, a very real concern for many banks who have dealt with borrowers defaulting on their payments over the past 5-7 years. If you are interested in pursuing FHA financing, be prepared to provide a hefty amount of financial and employment records that will be used to determine the loan terms. Additionally, FHA loans only cover single family and multi-family units up to four, so borrowers would need a special loan to purchase a condo or apartment housing more than four units.
While there are some extra tasks associated with applying for an FHA loan, if you qualify, it could very well be worth your effort. For borrowers with great credit, you can get a mortgage with a down payment of as little as 3.5% of the purchase price, and the down payment funds can even be a gift from an approved source. This is a huge benefit for buyers who may not have a five-figure nest egg to put down on a house. Another attractive feature of the FHA loan is that it provides some avenues of relief for borrowers who experience a major financial trauma and suddenly have problems paying their monthly mortgage. Should that situation arise, homeowners need to get in touch with their loan officer immediately to work out the details.
The bottom line is that this form of mortgage financing is a great option for many types of buyers, and while it may be a bit of an inconvenience to provide the detailed records and documentation initially required by the lender, the excellent terms of the loan and option for a low down payment make the effort worthwhile. My advice as a realtor? If you’re preparing to buy a home, ask your FHA-approved lender to meet with you and go over all the details for your particular needs. Stay tuned for part three in my series next!