FHA Loans: The Difference Between a Conventional and FHA Mortgage
By: Rosemary Rugnetta | July 22nd, 2010
July 22, 2010 (FreeRateUpdate.com) – When applying for a mortgage, most people will hear the terms Conventional mortgage and FHA mortgage, but many will not know the difference between these two types of mortgages. Understanding the basic differences between a Conventional mortgage and an FHA mortgage will help a borrower determine which one is the right one for them. Both types of loans are used to purchase a home or refinance an existing mortgage. Recently, many things have changed in the mortgage industry for all types of loans, but the basic differences remain the same.
A Conventional mortgage includes all loans that are not insured by a government agency. They can be either conforming or non-conforming loans. Conforming conventional loans follow the guidelines and qualifications of Fannie Mae and Freddie Mac while non-conforming loans, such as Jumbo Loans, do not follow the same rules.
FHA (Federal Housing Administration) is a federal government agency that was created to make affordable housing available to low and average income borrowers. They insure private mortgage loans issued for new and existing housing. By insuring these loans, banks are guaranteed repayment if a borrower happens to default. For this reason, FHA mortgages are highly desirable by banks.
Credit qualifying for an FHA mortgages is not as strict which is why it is widely used. FHA allows a borrower with a few credit issues or no credit history to purchase a home as long as they can provide documentation to support these compensating factors. Conventional mortgages are more rigid when it comes to credit worthiness and requires a higher credit score. While both FHA and Conventional Loans have the same interest rates, conventional loan interest rates can increase depending upon the credit score. The lower the credit score translates into a higher interest rate.
FHA currently requires 3.5% down payment while Conventional mortgages require a 20% down payment with no mortgage insurance. For a Conventional mortgage, a borrower must put at least a 5% down payment. This down payment must come from their own verifiable funds. The borrower will then carry mortgage insurance for the remaining 15%. On the other hand, FHA will allow the entire down payment to be a gift from a family member, a government agency or a non-profit organization. They will also allow the seller to pay part of the closing cost. This is why many state grants and state bonds are used together with FHA Loans.
FHA mortgage insurance is built into their system while a conventional loan has a separate process for private mortgage insurance which is paid monthly and for which a borrower must be approved separate from the loan approval. FHA charges an annual renewal mortgage insurance premium which is paid monthly. They also charge an upfront mortgage insurance premium when the loan closes.
Appraisals for FHA mortgages and Conventional mortgages are similar in that they are both an opinion of value that represents the market value at the time. Their differences are that an FHA appraisal is more detailed and has additional required forms to be completed by the FHA approved appraiser. As a protection for the borrower’s health and safety, the FHA appraiser will look for things such as broken windows, peeling paint, code violations, smoke detectors and the condition of the roof. Environmental contaminants and hazards can disqualify a home from the FHA program. This is why FHA requires that appraisers must be FHA approved by them.
Today’s mortgages are quite different than what was available several years ago. Economic factors continue to change the fundamentals of the mortgage and real estate markets. What was true and in effect yesterday may not be true for today. For that reason, interest rates, minimum credit scores, down payment requirements and guidelines for both Conventional mortgages and FHA mortgages need to be checked regularly for updated information.
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