Understanding The Difference Between An FHA And Conventional Loan

With so many mortgage options available, it might be hard to narrow down the options for a home loan without learning what makes each financing option unique.

In today’s article, we will cover the major differences between conventional financing and FHA financing to help you get familiar with two of the most popular home loan choices.

Understanding Conventional Loans

Conventional loans are standard mortgage loans offered by most banks, and the most common type of loan people take on. These loans have normal rules and terms that are familiar to most, without any unusual requirements that need to be fulfilled. Conventional loans also offer the most flexibility when it comes to the types of property it can be used on.

Though there are stricter credit score requirements for conventional loans, the benefit to the borrower is a quicker time to loan closing, and typically lower mortgage insurance premiums when compared to other loan types. Learn more about the pros and cons of conventional loans.

What Is An FHA Loan?

There are many pros and cons of a conventional loan, and while we won’t discuss all of them here, there are alternatives to a conventional loan. One alternative is an FHA (Federal Housing Administration) loan.

FHA loans are for borrowers who are unable to meet the requirements of a conventional loan, or who do not want to make such a large down payment. Many home buyers choose to apply for an FHA loan when purchasing their first home.

The reason banks are willing to write FHA loans even though the borrower may have a lower income or a smaller down payment is because an FHA loan is guaranteed by the federal government if the borrower defaults on the loan.

FHA loans overall are easier to qualify for in terms of income, the amount of required down payment, and credit score, but they take longer to close because there is more red tape involved in the underwriting process. The other major string attached is an upfront mortgage insurance premium that can be quite costly, as well as ongoing mortgage insurance payments during the life of the loan.

Which Loan Is Right For Me?

While the decision is entirely up to your individual circumstances, here are a few points to make it a little easier to compare them. Let’s use an example of a $200,000 loan for both an FHA and conventional loan.

Income Requirements

The lender will look at your total debt ratio, that is to say they will examine your income and then add up all the outstanding debt payments such as mortgage payment, student loan payments, credit card payments, car payments etc. The debt-to-income ratio requirement can vary greatly in certain situations when it comes to conventional loans, so it’s best you speak with a loan officer about it. FHA loans have more flexible debt-to-income ratio requirements, so that may be an option to consider if yours is quite high.

Mortgage Insurance

With a conventional loan, the lender may require that you purchase mortgage insurance if your down payment is less than 20%. The higher your down payment, the lower your mortgage insurance amount will be. If your down payment is higher than 20% you will not be required to pay for private mortgage insurance.

FHA loans however are REQUIRED to have not only mortgage insurance, but in addition, the borrower must also pay an upfront mortgage insurance premium that is equal to 1.75% of the loan amount (approx. $3,500 on a $200,000 loan). If you put down less than 10%, you’ll have private mortgage insurance for the life of the load and above 10%, you’ll have it for 11 years.

Conclusion

While all of this information can sound daunting to the average person, it’s important to know that our Loan Officers here at OVM Financial are standing by to answer any questions you may have, so get in contact today and let us help you on your journey to owning your dream home!