If you would like to become a home owner but know (or fear) that your credit will not qualify, here are some facts about getting an Federal Housing Admin (FHA) loan:
- Perfect credit is not required, but lenders prefer to see that you have been paying creditors on time for the past 12 months. That shows you have put difficulties of the past behind you and are now on track with your finances.
- You can get approved 24 months after a Chapter 7 bankruptcy is discharged.
- Medical collections can be ignored, because they are too often the fault of the insurance companies.
- Other collections, up to a total of $2,000, can be ignored.
- The down payment is 3.5 percent of the purchase price. If you don’t have the cash but have family who is willing to help with either a gift or a loan, that is allowed.
- Closing costs may be paid by you, by a family gift, or by the seller. Or, the lender can credit you toward closing costs in exchange for a higher interest rate.
- Most lenders require that your middle credit score is 580 or 600, depending on how strict they are.
Where Do You Get a FHA Loan?
You get a FHA loan through a mortgage lender. I recommend going to a full-service mortgage lender, because they have more options than a bank or credit union, often close faster, and because I work for a full-service mortgage lender and think they are the best!
What If Your Credit Doesn’t Qualify?
If your credit score is too low or if you have credit blemishes that need to be repaired, may I suggest a handy do-it-yourself guide that won’t cost you an arm-and-a-leg? Credit repair is legal and good folks are doing it and becoming home owners. For example, I am closing a loan for a lovely couple who got tired of paying high rent and will now own a three-bedroom home that includes a big garage with a workout room and half bath — with a smaller monthly payment than their rent. To check out the credit guide, click here.
Thank you for reading my blog. Please feel free to subscribe (see top right) and pass this info along via social media, because a lot of people think their credit is not good enough to buy a home when it is! Perfect credit is not required for home ownership!
FHA has rolled out a new option for home buyers who need help obtaining a down payment. Now, for the first time, a family member can loan you the money. Previously, all funds coming from family had to be a gift with no payback required. Not all families are in a position to give funds, but some could make a loan, so this is good news.
What You Need to Know
The loan must be disclosed right up front on the loan application, but don’t worry about the paperwork. Simply tell your loan officer and he/she will input it properly for you.
The loan is recorded with the County Recorder’s Office, just as any official house loan would be. Your closing agent (escrow company or closing attorney, depending on your state) can guide you.
The down payment on an FHA (Federal Housing Administration) loan is 3.5 percent of the purchase price. On a $200,000 house, that would be $7,000 down payment.
The house or condo must be your primary residence. You cannot use an FHA loan for a vacation/second home nor for a rental property.
You do not need to be a first-time home buyer. Second time buying a home, third time, it doesn’t matter.
Don’t Forget Closing Costs
In addition to the down payment, there are closing costs. Such as, lender fees, credit report, appraisal report, title insurance, escrow/settlement fee, and prepaid costs (property taxes, home owner’s insurance, prepaid interest). You can pay these or the seller can pay the closing costs, if it is designated on your purchase contract. Or, the lender can give you a credit toward closing costs in exchange for a higher interest rate.
Credit Score Required For an FHA Loan
Each lender has its own rules for the credit score required for an FHA loan. Typically, that ranges from 580 to 600 as the minimum. If you can boost your score to at least 620, you will get a better interest rate and lower monthly payment.
A Chapter 7 bankruptcy must be discharged for 24 months. A Chapter 13 bankruptcy must have been paid on time, per the arrangements made by the court.
FHA likes to see on-time payments for the past 12 months. If you’re going to be a home owner, you should be able to demonstrate that you’ve been on-track with your finances for one year. That’s reasonable.
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Can you afford a mortgage payment but are low on cash? Would you like to buy a house now before prices and rates go up even more?
Here are four ways to get into your own home with little or no money down.
1) USDA zero down loan. The property cannot be in a highly populated city, but it doesn’t have to be way out in the country either. To check out property eligibility, see here.
2) Use a state bond for the down payment. All states have various programs that either provide the down payment or lend you the down payment with zero interest and no payment, to be paid back at the end of the loan. To check out options for your state, contact your local mortgage broker or full service mortgage lender (not big bank).
3) Use gift money for the down payment. A conventional loan has 3% down, FHA loan 3.5% down. Both allow gift money from family for the down payment.
4) VA loan is zero down for U.S. Veterans. This is a nice thank you for serving our country. Most lenders offer the VA loan.
Getting Closing Costs Paid For, Too
All loans have closing costs, which include the lender fees, cost of appraisal, title insurance, and attorney/settlement/escrow fee. In addition, there are property taxes and home owner’s insurance that must be paid for upfront. If you close in the middle of the month, there is a partial mortgage payment called prepaid interest.
The closing costs can be paid for by the seller if you have that written into your Purchase Agreement. (Ask your Realtor to negotiate this for you.) You can also receive a Lender credit toward closing costs. To receive a Lender credit, you take a higher interest rate. (There is no free money in mortgage.)
If you’re tired of paying rent, I encourage you to apply for a mortgage now, because interest rates are and will continue to rise, which means your monthly payment goes up. Don’t assume you cannot qualify for a home loan. Many people who feared that might be the case are now happily opening the door to their own home!
Please help pass on this encouraging news to others via social media. Thank you!
FHA – Federal Housing Administration
(Often referred to as a first-time home buyer’s loan; although, you needn’t be a first time buyer to get it.)
580 to 620 (depending on the lender and other credit factors)
(Program designed for first-time buyers with average or below incomes.)
Conventional 3% down
VA – Veterans Administration
500 to 620 (depending on the lender and other credit factors)
USDA – U.S. Dept. of Agriculture
640 (most lenders)
No score required with sufficient down payment (Usually 30% to 40% down payment required. Interest rates from 8% to 12%.)
IMPORTANT TO KNOW
- Lenders use your mortgage credit score, not the consumer credit score you get from a free site.
- Lenders use the middle score of three. Scores are not averaged together.
- When there are two or more people on the loan, the score of the person with the lowest score is used.
- Credit score is only one factor in credit qualification. Other factors are public records (such as foreclosure, bankruptcy, judgements, liens), last 12 months’ pay history, etc.
BUY NOW OR WAIT FOR A HIGHER CREDIT SCORE?
Is it better to buy a home with a low score and higher interest rate, or does it make sense to wait until your credit has improved?
That depends, but in general, if you can raise your score in three
months, it is better to wait and take the lower interest rate. On the other hand, if it is going to take a year or longer to raise your score and if house pricing are rising in your neighborhood, then I would buy the house now and refinance in a year or two. That way, you can build wealth in equity while your credit is improving. Most people cannot save money as fast as prices are going up. That said, it is an individual situation that you should discuss with your loan officer.
Do you know someone who would love to stop renting and buy their own home? A new study says 79% of Millenials want to buy a house. This study, by Bloomberg, goes on to tell them they can’t save fast enough for a down payment. I am here to tell you that I disagree! Why?
Bloomberg’s chart shows how many years it takes to save 20 percent down.
But who says you have to make a large down payment? It is not required.
Here are tips for buying a house when you can’t save fast enough for Bloomberg.
- If your credit score is 720+, take a 3% down conventional loan.
- If your credit score is 580 – 719, take a 3.5% down FHA loan.
- If your family is able to give you gift money for a down payment, you’re ready to go.
- If you are a U.S. Veteran, you may qualify for zero down.
- Use one of the many down payment assistant programs offered by your state. For example, I have a program in WA that will cover your down payment plus kick in a little for closing costs. You can earn up to $97,000/year to qualify. When you sell the house (or refinance), you pay back the down payment out of the proceeds. This is an interest-free loan to help more people enjoy home ownership.
If home values continue to increase next year as fast (or nearly as fast) as they did in 2015, you are better off buying now than waiting until you can save for a larger down payment.
Also consider that home owners receive the best and biggest tax deduction available. Typically, a home owner can deduct the interest portion of their payment plus property taxes. This lowers their tax bracket, potentially saving significant taxes. (Speak with your CPA for tax advice.)
If credit score is your barrier, then pick up a copy of Repair Your Credit Like the Pros here and get to work. Earlier today, I heard from a lovely young woman in Ohio who followed the book’s directions and is now applying for a home loan. Yes, credit repair works! But you must do it properly, like the credit attorneys and certified credit professionals.
What barrier is keeping you from the American Dream? Post a comment (see top of this article) or send me an email here. I promise to reply.
Or, “Can I take a cash advance on my credit card to help with my down payment?”
The answer to both questions is no. Your down payment must be either your own money or gift money from family or grant money from an acceptable source. No part of your down payment can come from a loan, not even from your mom. No exceptions.
If a family member is providing cash toward your down payment, then they will need to sign a form letter stating it is a gift and no repayment is required. Usually, they also need to show the source of their gift money by providing a bank statement(s) or other document such as investment statement.
Why can’t you take a loan from your parents for a down payment? Because the lender thinks that if you get into financial trouble and have to make a choice between paying mom and dad or the mortgage bank, your family ties will be stronger and the bank will lose out. Therefore, it is an unacceptable risk to lending. The bank is not going to take “second position” behind your family.
Any other loan, such as a cash advance from a credit card, is also unacceptable. This would affect your debt ratio as well as put the bank at a higher risk for getting paid.
For a small down payment of only 3.5 percent of the purchase price, look at the FHA loan. FHA allows all of your down payment to be gift money from family.
If you are eligible for a VA loan, you may qualify for a zero down loan.
The no-down sub-prime loans of yesteryear are gone, and I think that’s a good thing. It takes time and discipline to save for a down payment and closing costs, and that’s not a bad thing either.
Who Is Allowed to Gift Money
Gift money may come from a family member. Some lenders will stretch that to include a fiance/fiancee. Friends are not allowed to gift the down payment. Why? Because lenders believe that your parents, a grandparent, or even a brother or sister would give you cash without expecting it to be returned. But a friend? No, lenders don’t think friendship stretches that far, and that it would actually be a secret loan. Remember, borrowed money cannot be used for a down payment.
What the Gifter Has to Prove
Lenders have a form Gift Letter that the person donating the funds must fill out and sign. In addition, they have to prove “ability to give.” This is done by providing two months’ bank statements showing where the gift money is coming from. Why? So the lender knows the person gifting the money isn’t taking a cash advance from a credit card or some other type of loan. Again, no borrowed money allowed for down payments.
I once had a home buyer tell me her dad said, “I am not showing them how much money I have in my account. You tell them I am not giving my bank statement! The letter is sufficient.” Well guess what? The loan was suspended by the underwriter until the dad decided to cough up the bank statements. You can’t bully an underwriter into changing the rules, so you’ll want to let your donor know up front you will need copies of the bank statement later.
How to Execute the Gift for the Smoothest Closing
Do not have your donor transfer their funds into your bank account. This will cause a big, complicated paperwork mess that you don’t want to deal with. Instead, have them sign the letter that your loan officer provides and have the statements ready. Your loan officer will instruct you how and when your donor should transfer the funds and where. Typically, the donor can have the money wired directly to the escrow closing agent or closing attorney–the neutral third party who handles all disbursement of funds.
How Much Money You Need
For an FHA loan, the down payment is 3.5% of the purchase price. Gift money may cover all or some of that. If you have some money of your own but not enough, you can receive a partial gift.
If gift money will cover all of your down payment and if the seller will pay all of your closing costs, then you, the home buyer, will need only the appraisal fee (about $450) and two months’ total house payment (including principal, interest, taxes, insurance, and mortgage insurance) in reserves. This means you need to show that you will have two months’ payment left in your own bank account after your loan closes. Lenders will not fund your loan if you will be left with only a few dollars in your account afterward. That would be too risky for them and unwise for you.
Heads up! May 24 is the deadline for applying the cheapest FHA loan. An FHA loan is commonly called a First-Time Home Buyer’s loan, because the down payment requirement is only 3.5% of the purchase price. You do not have to be a first time home buyer to qualify for the loan, but you do need to live in the house as your primary residence for at least one year. This is not a loan for investors. The loan is backed by the Federal Housing Administration, and you may obtain the loan through any bank or mortgage lender that is licensed with the FHA. (Most lenders are.)
The reason I am calling May 24 the deadline for applying is because the private mortgage insurance fee increases on June 3rd. In order to make the June 3rd deadline, your loan file must have an FHA case number by that date. Because it can take a few days to get the case number, your loan officer needs to receive your application, along with all required financial documents by about May 24.
What is the FHA Price Increase?
FHA 30-year fixed rate loans with a down payment of less than 10% down will have the monthly mortgage insurance fee for the life of the loan–regardless of equity.
Loans with 10% or more down will have the fee for 11 years.
Previously, the MI fee could be cancelled after 5 years if you had at least 22% equity.
The mortgage insurance fee protects the lender in case you default on the loan. The insurance is for the lender, but the borrower pays for it. FHA is increasing the time the fee must be paid in order to protect their investment reserves. Currently, FHA has about $4 billion in reserves.
The only way to get out of the monthly MI fee early would be to pay off the loan by refinancing into a conventional loan.
If you can get your purchase contract signed this week, it would be in your best financial interest. I suggest that you speak with your real estate agent and loan officer about this looming deadline.
FHA loans have been popular with first-time home buyers who need a low down payment. FHA requires only 3.5 percent down rather than 5 percent down for a conventional loan.
FHA loans are also popular for folks who don’t have a 740+ credit score preferred for a conventional loan, but who still want the same low interest rate.
But beware, the FHA guidelines are slated to tighten up.
New, Stricter Requirements for an FHA Loan
Senator Bob Corker, R-Tenn, has asked the commissioner to impose stricter rules for FHA, as follows:
1) Higher credit score requirement.
Minimum middle credit score of 620. Currently, some lenders will go down to 580 or even lower, but charge a higher interest rate for the additional risk.
2) Longer wait for people who had a foreclosure in the past.
A down payment requirement of 20 percent for those who had a foreclosure within the past seven years. Currently, many lenders allow 3.5 percent down with a wait period of four years after a foreclosure, if there were extenuating circumstances.
3) Lower loan limit.
Drop to $625,500 maximum loan. Currently, the limit is $729,259 in areas of the U.S. where the median value of homes is higher.
What Will Happen
We don’t know what changes the Senate will pass, but we can count on negotiations over these issues; and most likely, a tightening of requirements for the FHA loan. Senate Banking Committee Chairman Tim Johnson prefers to pass a bill by unanimous consent. So if you have an opinion about these issues, it would be wise to contact your state Senate representative now. And if you know someone who is a candidate for an FHA loan this year, you might want to pass this information on to them, as well.