However, it's important for many homebuyers to know the specific qualification requirements for FHA loans and how they compare to the qualifications for conventional mortgage loans. With that in mind, here's a rundown of the qualifications for FHA mortgage loans so you can determine whether pursuing one is the right move for you.
FHA mortgage qualification
The qualifications for FHA loans can be broken down into a few different categories:
- Credit qualifications.
- Debt and income qualifications.
- Employment qualifications.
- Down payment qualifications.
- Property qualifications.
Let's take a look at these one at a time. It's important to note that some of these qualifications are set in stone while others can be a bit flexible, depending on the lender.
FHA loans require a minimum FICO credit score of 500, but you'll need a 580 if you want the lowest possible down payment requirement. We'll get into the specifics of FHA down payments later, but the short version is that a homebuyer with a credit score of 580 or higher can purchase a home with an FHA home loan with just 3.5% of the purchase price down.
It's also important to note that you have a FICO score from each of the three major credit bureaus (Experian, Equifax, and TransUnion), and lenders will look at all three. Your middle score is typically the score that is used to determine whether you qualify, so if you have a 600, 595, and 578, the 595 would likely be used in your lending decision when determining whether you meet minimum credit score requirements. Many credit cards offer access to one of your FICO credit scores for free, but if you want to see them all, you'll likely have to pay for them. Services like myFICO.com give you this access and a whole variety of other features that can help you improve your score.
Debt and income qualifications
The debt-to-income ratio, or DTI ratio, is the debt metric that lenders typically use to determine mortgage affordability. This is your monthly debt obligations expressed as a percentage of your pre-tax income, and there are two variations of the DTI ratio that lenders might use:
- Front-end DTI: This is your proposed mortgage payment (including property taxes and insurance) as a percentage of your total income.
- Back-end DTI: This is the total of your monthly obligations, including your new mortgage payment, as a percentage of your total income.
While lenders have varying rules, the back-end DTI is likely to be the one your lender focuses on. Most FHA lenders want to see a back-end DTI ratio of 43% or less, but this is one area where lenders can be a little flexible. In some circumstances, lenders will make FHA loans with DTI ratios as high as 50%.
Employment is different from income. Lenders want to see that you not only have enough income to justify the loan but that you have stable employment that should allow you to continue to pay the loan.
For this reason, FHA lenders generally want to see two years of steady employment in the same field (but not necessarily at the same job). For example, if you left one teaching job last year and immediately started another, you should be fine. If you left your teaching job to work as a bartender, it might be another story.
Another point to mention is that the two-year requirement might not apply if you were in school for some of the time. This exception actually helped me get an FHA home loan. I only had a year of employment experience in my field at the time of my application, but I had been in school prior to that.
Down payment qualifications
I mentioned this briefly, but here are the formal down payment requirements for FHA loans:
- If your FICO score is 580 or higher, you need 3.5% (or more) of the purchase price as a down payment.
- If your FICO score is less than 580 but greater than 500, you can get an FHA loan with a 10% down payment.
There are two other things to know about the down payment requirements. First, your down payment can come from a gift, so it doesn't necessarily need to be money in your bank account. And second, you can roll most or all of the closing costs of an FHA loan into the loan itself, so 3.5% is truly the amount of money you'll need to close.
So far, the qualifications have all been personal. However, one FHA loan qualification that's important not to overlook is the qualifications for the property itself.
The U.S. Department of Housing and Urban Development (HUD) sets three types of standards that must be met before a property can qualify for an FHA-backed loan:
In a nutshell, the property shouldn't be hazardous to the health and safety of its residents, it should be a secure place to live, and it should have no major structural issues or other flaws that make it unlivable.
Before a property can qualify for an FHA loan, a FHA-approved appraiser needs to inspect the property's condition and record the results on an FHA appraisal form. While minor and cosmetic problems won't cause a property to be rejected, there are some things that will. Just to name a few common standards a property needs to meet:
- All rooms need to have working heat sources.
- The roof must have at least two years of remaining life and cannot have active leaks.
- The property must be safely accessible to pedestrians and vehicles (particularly emergency vehicles).
- The property cannot have any structural defects or conditions that could lead to structural problems (such as termite damage).
- The property must have a toilet, sink, and shower -- not just an empty space for them.
Finally, it's worth noting that the loan amount must conform to the current FHA loan limits in your area. And the property generally needs to appraise at an acceptable loan-to-value ratio, which basically means that you can't get an FHA loan if you're paying more than the property is worth.
Can you qualify for a conventional mortgage loan instead, and should you?
A conventional mortgage refers to a mortgage loan that is not guaranteed by the government, and there are some advantages to them as opposed to FHA loans. For one thing, even if you need mortgage insurance, the cost will likely be significantly less with a conventional loan than with the FHA's mortgage insurance program, which has both an upfront and ongoing mortgage insurance premium that generally remains for the entire life of the loan.
Conventional mortgages have stricter credit requirements. Specifically, you'll need a FICO score of at least 620 to qualify for a conventional loan.
However, even if you qualify, a conventional loan might not be right for you, especially if you're at the lower end of the acceptable credit score range. Because they aren't guaranteed by the government like FHA loans are, interest rates can get much higher for borrowers who are perceived as more of a credit risk.
The average 30-year mortgage rate in the U.S. is about 3.5% as of March 2020, but the average for a borrower with a 620 FICO credit score is a significantly higher 4.52%, which could add tens of thousands of dollars in interest over the term of your loan. Meanwhile, since FHA loans are guaranteed, interest rates tend to be in line with the market average, even for lower-credit borrowers.
With this in mind, even if you can qualify for a conventional loan, it's not a bad idea to fill out applications for both types so you can compare the costs of each option.
How do you apply for an FHA loan?
Applying for an FHA mortgage loan is easy. Most major lenders offer FHA mortgages in addition to conventional loans.
One thing I'd strongly suggest is applying with several FHA-approved lenders. Interest rates, lender fees, and other expenses can vary considerably, and these can make a big difference over the life of a 30-year mortgage. And as I mentioned, if you can qualify for a conventional loan, apply for at least a couple of those for comparison purposes as well.
Don't worry about taking a hit to your credit for doing this. While it's true that applying for loans can hurt your credit, especially if you apply many times, there's a special rule in the FICO formula which says that as long as all of your credit inquiries (applications) take place during the same two-week shopping period, they'll count as just one for scoring purposes.
In short, there's no good reason not to shop around for an interest rate, and you could end up saving thousands of dollars if you do.
Can the FHA loan requirements change?
As a final thought, it's important to realize that these are the FHA loan qualification requirements as of 2020. They can change over time. They have in the past and could certainly change again at some point in the future. As a personal example, when I obtained an FHA loan to buy my first home in 2012, the credit score requirement for a 3.5% down payment was 620, significantly higher than it is today.
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