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Guide to FHA Mortgage Insurance
Federal Housing Administration (FHA) mortgage loans have helped millions of people with credit blips, lower incomes or smaller down payments achieve the dream of owning their own home. But while FHA loans can be a great way for some buyers to secure financing on their homes, these loans come with a small catch: you’ll need to pay for FHA mortgage insurance with your loan.
This additional payment includes an upfront sum and an annual payment that is broken up into 12 payments, which are made with your mortgage payment each month. This extra insurance is unique to FHA loans, and it is required of any borrower taking advantage of this type of mortgage loan.
If you’re considering an FHA loan, you need to understand the ins and outs of this type of insurance. Learning how FHA loan mortgage insurance works is essential to understanding how this type of loan works. If you understand FHA loan mortgage insurance, you’ll understand why your premium payments might be a little higher than you thought they’d be with this type of loan.
What is FHA mortgage insurance?
Your FHA mortgage is backed by the U.S. government and insured by the Federal Housing Authority, or FHA. The federal government isn’t the lender, though. There are FHA-approved lenders that do the actual work of extending the loan, but they are required by the government to include two charges in addition to the usual legal fees and other closing costs. Both of these charges pay for mortgage insurance.
These charges include:
- An upfront premium of 1.75% of the loan amount, payable at closing
- A monthly premium that varies from 0.45% and 1.05% of the loan amount, depending on how much the loan is, how much your down payment was and how long the loan is financed for
Both of these charges are mandatory with this type of loan. If you take out a conventional, non-FHA mortgage, you generally won’t have to pay mortgage insurance unless your down payment is less than 20%.
But with FHA mortgage insurance, your monthly payments for mortgage insurance will continue for the life of the loan. The only way to get around this is to put down 10% or more at closing. In that case, the extra insurance premiums will end after you’ve been paying off the loan for 11 years.
Mortgage insurance doesn’t protect you in any way. It only protects the lender in case you default. This ensures that lenders are willing to work with buyers who don’t meet the income or credit conventional loan requirements. It also makes it possible for buyers with smaller down payments to purchase a home.
Pros of FHA mortgage insurance
There are several advantages to FHA loan mortgage insurance. These include:
- There are no payment fluctuations. The amounts are set in stone and won’t fluctuate due to market changes or other factors. Your monthly payments will stay the same throughout the life of the loan.
- These loans are easier to qualify for. An FHA mortgage is easier to qualify for than a conventional mortgage. Regular mortgages generally require a credit rating of 620 or more, while you may be able to get an FHA mortgage with a credit score as low as 500.
- Low credit scores are acceptable. You can qualify for an FHA loan with a down payment as low as 3.5%, even with a credit score as low as 580. If your credit rating is in the low 500s, you’ll be able to score that loan with a 10% down payment.
- Bankruptcy and foreclosure isn’t a deal-breaker. FHA mortgage loans are still available to those who are unlikely to qualify for a conventional mortgage, such as people who have a bankruptcy or foreclosure in their recent past.
- You have multiple property options. With the new federal guidelines put in place in 2019, you can now use your FHA mortgage for not only a house purchase, but also to buy a condominium unit.
Cons of FHA mortgage insurance
There are also some drawbacks to FHA mortgage insurance. These include:
- It’s required. No matter what your down payment is, you’ll be required to pay mortgage insurance premiums. With a conventional mortgage, a down payment of more than 20% of the value of the loan eliminates this requirement. And, once you have built up 20% equity in your home, that insurance can be cancelled. With FHA loans, you’ll pay the insurance premiums either for 11 years (if you put down more than 10%), or for the life of the loan.
- There are property limitations. You can’t use an FHA loan to purchase a “fixer upper.” If you enjoy working on your home and wish to buy one that needs extensive structural renovations, you may not qualify for an FHA loan. The government requires homes that they finance to be structurally sound.
- It can last for the life of the loan. If you put down less than 10% at closing, you are stuck with your FHA mortgage insurance for the life of the loan. The only way to get rid of it is to refinance to a conventional mortgage.
- No second homes or investment properties are allowed. Your FHA loan can only be used for your primary residence; the FHA will not loan you the money for a second home or investment property.
How much is FHA mortgage insurance?
As noted, there are two charges associated with your FHA mortgage insurance: an amount that is due at closing, but which can be rolled into the monthly payments, and a monthly payment that is added to your regular mortgage charges each month.
The first charge is a one-time fee of 1.75% of the amount financed. For every $100,000 that you are financing, this fee will be $1,750. So if you are buying a $350,000 home, you will pay $6,125. If you have the cash available, you can pay this at the closing. If not, it will be rolled into your premium payments. Note that this is not an annual fee — you only need to pay it once.
The second charge varies between 0.45% and 1.05%, depending on the length of the loan, the amount you put down and other factors. For that $350,000 loan, you would pay an annual charge of between $1,575 and $3,675, divided into 12 monthly payments. That would add between $131.25 and $306.25 to your payment each month.
Should you get FHA mortgage insurance?
FHA mortgage insurance isn’t optional. If you apply for and receive an FHA mortgage, you will have to pay for the mortgage insurance for at least 11 years. That may seem like a long time, but it’s the FHA’s way of ensuring that they are protected in case you should default on your loan. Since FHA loans are often used by those with poor credit, it only stands to reason that they would want this protection.
So is there any way to get rid of it? Your first option would have been to make a down payment of 10% or more. In that case, you will be free of the insurance payments after 11 years. If you put down less than 10%, there is unfortunately no way to eliminate the insurance payments for the life of the loan.
You could also opt to refinance. Many homeowners who take out an FHA loan and then find that their financial circumstances have improved will get rid of the extra insurance premium by refinancing their loan. That means switching from an FHA loan to a conventional loan, and making a large enough down payment that you do not have to pay private mortgage insurance (PMI).