What to consider in FHA vs. Conventional
FHA vs. Conventional – As long as you’re not a veteran that’s eligible for VA benefits, or looking at homes that potentially qualify for USDA financing, you’re likely going to be deciding whether to go with FHA or a “Conventional” loan. Sometimes this is a very, quick, very simple decision. There are definitely scenarios where one program will obviously be a better fit than the other. Some are even simpler than that – as in some borrowers will only qualify for one or the other.
So what’s the difference between FHA vs. Conventional loans!?
Qualification and Down Payment
Historically FHA has been the “go-to” low-down-payment home loan because it allows for 3.5% down purchases under its normal program. It’s sometimes misunderstood that a conventional program requires 20% down. That’s not the case however, most conventional programs allow for as little as 5% down, and as little as 3% down in some cases. Generally speaking though, FHA loans tend to be a little more flexible on debt-to-income maximums.
Most of the time, an FHA loan will have a lower interest rate than a conventional loan of the same amount.
If the FHA loan usually has a lower rate, why are we still talking about FHA vs. Conventional loans!? Well, there’s a few more things to consider besides rate. One of those is cost. FHA loans are basically guaranteed by the government, and there’s a price to be paid for that. One of these ways is through an FHA loan’s “up-front mortgage insurance premium.” For most scenarios, this equates to 1.75% of the loan amount. The good news is that this fee is one of very few things that can be rolled into the loan amount.
The other cost to consider when weighing the options between FHA vs. Conventional loans is the mortgage insurance. Anytime a borrower goes with one of these programs, and puts less than 20% down, they will have to pay mortgage insurance (unless subordinate financing is being used – a different discussion!). You may have heard the term PMI which stands for “private mortgage insurance.” Many people use this acronym interchangeably to reference any mortgage insurance. FHA mortgage insurance is actually called MIP though – “mortgage insurance premium.” Use these terms in the correct context and you’ll be ahead of 99% of your fellow shoppers, and a handful of loan officers!
The big question is which one is more – MIP or PMI. That simply depends on the scenario, and really has to be looked at on a case-to-case basis. The big difference here though that stands out, is that with an FHA loan, if a borrower only puts 3.5% down, they are stuck paying MIP for the life of the loan. With a conventional loan, the PMI can be removed when the loan has been paid down to 78% of the home’s original value (sometimes sooner).
Getting an Accepted Offer
One of the last big differences in considering and a FHA vs. Conventional loan is how it impacts getting you offer accepted. In DFW, as in many markets in the U.S. right now, houses are flying off the market. So right now, an extra hurdle for buyers, is actually getting their offer accepted. Even when offering full price, or over list price, there will likely be multiple offers (see Getting Your Offer Accepted).
In the past, FHA loans got a bit of a bad wrap because it was seen as low credit, low down payment product. While this isn’t necessarily the case, it’s still a lingering perception among some agents in the business. Secondly, FHA loans have a very specific set of guidelines for appraisals. Some people read this as “tougher appraisals.” Both of these factors result in the reality that in a fast-moving market like this one if an FHA vs. Conventional offer scenario where an FHA offer is up against a Conventional offer, and the seller (read the seller’s agent), has to decide between the two, the conventional offer will usually win out. Sometimes this can be equalized using the tips referenced in Getting Your Offer Accepted
But you didn’t tell me which one I should go with!
This is a very simplified, quick overview of FHA vs. Conventional loans. Honestly its as much as you’ll want to know. Ideally once you get down to details deeper than these, you’ll be working with a loan officer that you trust, and he or she will be able to explain and compare the details in terms of your specific situation, and the properties you’re considering.
But… Sometimes I have a hard time keeping insider information to myself!
So check out this link, and learn about how sometimes there’s more to the decision than just FHA vs. Conventional. Here, I explain some very specific programs within the “conventional” umbrella. These are special programs that are dependent on the borrower in some cases, and the home in others, but they’re valuable tools that I use to help get some borrowers into homes when other lenders couldn’t’! You can find it at Beyond FHA vs. Conventional