FHA Loan Requirements and Underwriting Standards
Editor’s note: FHA Mortgage Insurance Premium Changes starting April 9, 2012 and June 11, 2012. There is good news and bad news regarding the FHA MIP (Mortgage Insurance Premium) rates depending on the type of loan you are taking:
- Streamline Refinance Loan: The good news is that the mortgage insurance for FHA Streamline Refinance loans is decreasing starting June 11, 2012. The UFMIP (Up front MIP) rate decreases to 0.01%, instead of 1%. The annual MIP will be set at 55 bps instead of 115 bps, regardless of the loan amount. That means a savings of $50 per month for every $100,000. You are only eligible for the fee reduction if your current FHA loan was delivered to the FHA before June 1, 2009.
- Single Family Mortgage Loan: The bad news affects new FHA home purchase loans and anyone refinancing from a non-FHA loan into an FHA loan. For these borrowers, rates increased in April 2012. The UFMIP increased to 1.75% from of 1%. The annual MIP will increase by 10 bps.(The UFMIP increase is $750 for every $100,000 borrowed, and the annual MIP that increase $8.33 per month for every $100,000). The increase in the rates was a result of the Temporary Payroll Tax Cut Continuation Act of 2011 signed by President Obama on Dec. 23, 2011.
Consider applying for an FHA loan if you:
- Want to buy a home and have only a small down-payment
- Want to refinance and your loan-to-value is over 85%
- Have a credit score below 720
The FHA does not issue loans. The FHA is part of the U.S. Dept of Housing and Urban Development (HUD), which insures residential mortgages. The FHA does not fund the loan for a refinance or purchase mortgage. By guaranteeing the loan, the FHA gives lenders confidence the loan will be paid even if the borrower defaults. This allows more Americans to qualify to purchase a home and allows mortgage loans backed by the FHA to have lower interest rates.
With an FHA mortgage or mortgage refinance, underwriting guidelines are less strict than conventional mortgage loans. When a lender reviews an application for an FHA insured loan they will be more flexible when considering household income and debt-to-income ratios. However, an applicant must meet certain requirements that FHA has established in order to qualify. The following are general qualification guidelines, according to HUD:
- The borrower must meet standard FHA credit qualifications.
- The borrower must have a valid social security number, lawful residency in the United States, and be of legal age to sign on a mortgage.
- The borrower is eligible for approximately 96.5% financing. The borrower is able to finance the upfront mortgage insurance premium into the mortgage. The borrower will also be responsible for paying an annual premium.
- Eligible properties are one-to-four unit structures.
- FHA mortgage programs do not typically have maximum income limits, however you must have sufficient income to qualify for mortgage payments and other debts.
- Verification of income, assets, liabilities, and credit history for all borrowers is required.
FHA Loans Require Low Down Payments
The FHA’s guarantee gives borrowers who have less than perfect credit a chance to obtain low interest rate loans. FHA loans also have minimal down payment requirements. A qualifying borrower can finance 97% of the cost of the home, even including the closing costs in the mortgage.
FHA Loan Income Requirements
FHA borrowers must demonstrate an ability to pay the mortgage that they apply for. The FHA requirements protect the borrower from getting a loan that is beyond the borrower's means. The income requirements are looked at in two ways. The first is to compare the borrower's gross qualifying income to the new principal and interest mortgage payment, an escrowed portion to cover the property taxes, homeowner's insurance, the mortgage insurance premium, etc. To qualify for the loan, the percentage of these costs cannot exceed 29% of the gross income.
The second ratio compares the borrower's gross income to not only the costs listed above, but also looks at other monthly payments the borrower has, such as a car payment, a student loan payment, and the monthly minimum payments required by credit card accounts. To qualify for the FHA program, these costs cannot exceed 41% of the gross income.
FHA Loans and Credit
Having a qualifying income does not mean that a borrower will qualify for the FHA program. Credit history is also a determining factor. Regarding a borrower's credit, FHA loans have looser standards than conventional loans. One great feature of FHA loans is that they do not require a high credit score. Normally, a FICO credit score of 580 is the minimum acceptable score, however lenders who make FHA loans can require a higher credit score. An extensive credit history is also not required. FHA loans generally do require a borrower to have two active lines of credit. The FHA even makes exceptions to that rule, if the borrower can demonstrate a solid payment history on payments for housing rental, auto insurance, and utilities.
FHA Loans and Delinquencies
A borrower can be disqualified from an FHA loan due to late payments on a previous mortgage within the last 12 months. If there is only one late mortgage payment in the past year and the borrower can provide a satisfactory explanation, the loan may be approved.
The presence of 30-day late payments to other creditors does not disqualify a borrower. The risk of not qualifying increases when a 60-day late payment appears. The FHA is looking for a pattern of responsible bill paying. If a responsible pattern has been established, an earlier period of serious delinquency could be ignored.
NSF checks are not likely to affect qualification. They rarely appear on a credit report and are not likely to be a topic of conversation in the FHA application process.
FHA Loans and Bankruptcy
Regarding a chapter 7 bankruptcy, the bankruptcy must have been discharged for 24 months, before an FHA loan will be approved. Please be aware that the discharge date is not the filing date. The discharge takes place after the bankruptcy court ordered all debts included in the Chapter 7 bankruptcy to be liquidated and then issued a notice of discharge.
A borrower can qualify for an FHA loan, even in the middle of a Chapter 13 bankruptcy! The payments to the bankruptcy trustee must be made as agreed for a one year period, the bankruptcy trustee must approve the loan payment, and the borrower must demonstrate job stability.
FHA Loans and Foreclosure
FHA loans generally require that the borrower not have a foreclosure or been issued a deed-in-lieu of foreclosure for the past 36 months. This is not a hard and fast rule. If a borrower can demonstrate a good payment history after the foreclosure and a reasonable explanation of why the foreclosure took place, the loan could be approved.
FHA Loans and Collection Accounts or Judgments
Minor collection accounts do not need to be paid in full in order to qualify for the loan. Judgments, on the other hand, must be paid in full.
FHA Loans and Federal Debt
Any borrower with a federal tax lien for delinquent federal tax debt or who has delinquent federal student loans will not qualify for an FHA loan.
A married borrower who wishes to purchase a home without his/her spouse, still must include the debts of the spouse on the application, if the borrower resides in a community property state. A non-purchasing spouse may be required to sign a document acknowledging the transaction and relinquishing his/her rights to the property.
FHA Loan Appraisal Requirements
FHA loans require an appraisal of the property's value to be made by an FHA approved licensed appraiser. An FHA appraisal is very thorough. It checks for the soundness of the structure as well as for health and safety issues. It is important for a borrower to keep in mind, however, that the FHA's acceptance of the appraisal does not protect the borrower; the FHA is not guaranteeing the condition of the property. If the home has a problem after the purchase, the borrower is solely responsible. This means that the borrower is well advised to pay for a separate home inspection, which is not the same as an appraisal.
FHA Loan Limits
A potential drawback in the FHA loan program is the dollar-limit the FHA places on loans. These limits are set county by county. In the lowest-cost areas, the FHA will insure loans up to $271,050, though that number can rise to $729,750 in the costliest parts of, say, New York or California.
That number will drop on Oct. 1, 2011 to $625,500. (Editor's Note: The higher loan limits were extended further. As of late 2012 the maximum FHA loan is $729,750.)
To learn the FHA loan limit for your area, go to the interactive FHA Mortgage Limits page, which shows FHA mortgage limits for all areas.