Buying a house can leave you feeling overwhelmed and under-informed. Not only are you spending every waking hour searching for your perfect home, you also have to think about how you're going to pay for it. And when choosing a mortgage, it's important to find one that works with your budget now, and also 15- to 30-years down the road as well. Because the world of home financing can be a confusing one, let's take a look at two of the most popular loans in the housing market: Conventional and FHA.
Many homebuyers choose conventional mortgages because they offer the best interest rates and loan terms - usually resulting in a lower monthly payment. If you're a homebuyer with a higher credit score and don't carry a lot of debt, this loan could make a lot of sense for you. A conventional loan offers you the flexibility to make a small or larger down payment, depending on your needs. For example, if you choose to make a 20 percent down payment, you'll enjoy immediate equity in your home and avoid paying private mortgage insurance (PMI). On the flip side, you may qualify for a conventional loan with a down payment as low as three percent. However, with any down payment less than 20 percent, you'll have to pay for PMI until you reach 20 percent equity in your home.
Popular conventional loan terms are 15- and 30-year. The maximum loan amount for conventional loans ranges between $510,400 and $765,600, depending on the county where the property is located. And if you choose a fixed-rate over an adjustable-rate mortgage, you don't have to worry about rising mortgage rates, which makes it easier to budget. You can use the conventional loan to buy a primary home, vacation home and investment property.
Conventional Loan Highlights
- Private Mortgage Insurance required on loans with less than 20% down (PMI eventually drops off)
- Seller can pay a portion of closing costs
- Higher credit score requirement
- Maximum loan amount is $510,400 (single family residence); high cost area is $765,600 (updated for the year 2020).
If you have less-than-perfect credit and are looking for a loan with a lower down payment, an FHA loan - backed by the Federal Housing Administration - may be the answer.
Competitive rates, flexible credit requirements, and down payments as low as 3.5% make the FHA loan attractive to first-time homebuyers, families with low- to moderate-incomes and buyers with lower credit scores. This is also a good loan if you don't have a credit score, as non-traditional forms of credit are accepted. You can buy or refinance your home with an FHA loan (must be your primary residence); eligible property types include stick built, condos, modular and manufactured homes.
FHA loans have specific requirements when it comes to credit scores and debt-to-income (DTI). Credit score requirements tend to be a bit lower than other mortgage loan programs. The general rule for FHA debt-to-income ratios is that your house payment should not exceed 31% of your income. Adding your house payment to the rest of your debt should keep your total debt at or below 43% of your income. Higher ratios may be considered with compensating factors. FHA has no income limit and no geographic restrictions.
FHA Loan Highlights
- Easier requirements for income and credit score
- Low down payment - minimum 3.5% down (96.5% financing)
- Mortgage Insurance Premium may be less costly than PMI
- Gift funds are allowed for down payment
- Seller can pay up to 6% of closing costs
Education is key when it comes to deciding what's right for you. Get more information on your choices by downloading our free Loan Options Guide . And remember, we're here to help!