More and more people feel that homeownership is out of reach for them.
Rising home prices coupled with stagnant wages and the hot competition in many markets does challenge new buyers.
But people also face another challenge: qualifying for a mortgage. Few people have both a high credit score and a matching downpayment. At the same time, there's help out there.
FHA loans help buyers better afford homes by insuring traditional mortgages so that lenders are more willing to offer mortgages. Unlike other types of government help, there are no FHA loan income requirements that dictate what salaries qualify.
FHA Loan Income Requirements
FHA loans don't require you to make a certain amount of money. There's no lower or upper-income limit. The FHA's primary concern is that you have a steady income from full-time permanent employment.
The process concerns itself with your debt-to-income ratio and your FICO score.
Debt-to-Income Ratio Requirements
A debt-to-income ratio is all your monthly debt payments divided by your gross income. It measures your ability to pay back your mortgage comfortably.
FHA loans cap the debt-to-income ratio at 43 percent. That means that you can't spend more than 43-percent of your gross income on debts like student loans, car loans, and other monthly debt.
In some cases, FHA will accept a 50 percent debt-to-income ratio. However, it is better to pay off some monthly debt to lower your ratio before applying for a loan. You'll get a better offer and be more likely to qualify for the home you want if you choose this route.
FHA FICO Score Requirements
In addition to a debt-to-income ratio under 43 percent, you also need a minimum FICO score.
A FICO score is what lenders of all types to determine the risk of lending to you. It provides a score from 300 to 850 based on your credit reports and other proprietary factors.
The FHA requires new borrowers to apply with a minimum score of 580. Only borrowers with a 580 score qualify for the down payment benefits.
Although the FHA says 580 is the minimum score it accepts, you may find it difficult if your score is 580 to 590. Remember that the FHA insures loans; it doesn't lend. Lenders do not need to provide you with a loan simply because you meet minimum FHA requirements.
The minimum score most likely to ensure you qualify for a loan is 620.
Fortunately, the FHA is willing to help new borrowers who struggle with their credit.
If you call the FHA (1-800-Call-FHA), a representative will refer you to an approved counselor. The counselor can teach you how to raise your credit and help you find local housing and credit counseling programs. Completing these programs arms you with the information you need to protect your credit and makes you more attractive to lenders.
How Much Cash Do You Need to Buy a House?
The FHA doesn't have an income limit that makes it easy to say, "I can buy that house."
So how do you know what you can afford?
The biggest issue new homebuyers have isn't affording their monthly mortgage payment. It's coming up with the initial down payment and the closing costs.
How to Calculate Your Down Payment
Most lenders require 20 percent down if you want to avoid paying for a product called private mortgage insurance (PMI). PMI covers your lender in the event that you stop making your payments.
To be clear: PMI covers the bank's loss if they foreclose on your home. It has no benefit to you - it only costs you additional money every month. And you can avoid it by putting enough cash down.
If you chose a private mortgage, you would then put down 20 percent of the agreed purchase price. So if you want to buy a $200,000 home, you'll need a $40,000 down payment.
The down payment is a huge stumbling block, particularly for renters. It's seemingly impossible to tackle rising rents, student loans, and save $40,000 (or more) of your income.
The average American puts down only six percent, but even that can be problematic for someone who lives in an area where rent is high.
That's where FHA loans come in.
Because an FHA loan comes with a government guarantee, you can put as little as 3.5 percent down.
The FHA 3.5 percent down payment for borrowers with a credit score over 580. If your credit score falls between 500 and 579, you'll need to put 10 percent down.
Note: if you take out an FHA loan, then you will pay PMI for the life of the loan or until you refinance into a conventional mortgage. This differs from a traditional mortgage when you can remove PMI when you hit 78 percent loan-to-value.
What Are Your Closing Costs?
Closing costs vary by state, city, and lender, which makes them hard to predict. But you'll need to come up with the closing costs in cash - they don't get rolled into your loan.
The fictional $200,000 mortgage referenced above would require you to come up with $4-6,000 in cash to pay for things like title insurance, appraisals, and attorneys.
Depending on your state, you can negotiate with the seller or the lender to avoid the closing costs. However, this isn't always an option.
Buying a House You Can Afford
FHA loans don't require you to make a minimum salary. They don't kick you out if you make too much either.
Still, the lender will assess how much you make and compare it with the house you want to buy. A 3.5 percent downpayment isn't a free-for-all.
Typically, lenders consider a mortgage payment affordable when it makes up 26 to 29 percent of your gross monthly income.
To afford a $2,500 payment, you'll need to make $10,000 per month in gross pay. The property price you afford based on that depends on where you intend to buy.
Here's a rough estimate of the monthly payment you can afford at different annual salaries:
- $40,000 salary - $800 mortgage payment
- $50,000 salary - $1,100 mortgage payment
- $60,000 salary - $1,350 mortgage payment
- $70,000 salary - $1,700 mortgage payment
- $80,000 salary - $2,000 mortgage payment
We recommend using Nerdwallet's first-time home buyer's calculator to see what a mortgage payment would do to your finances.
Things to Keep in Mind About FHA Loans
FHA loans offer an opportunity for those with lower credit scores to stop renting and secure a mortgage. However, they also come with some restrictions that you should know about, particularly if you have both the credit and cash to apply for conventional loans.
Appraisers Are Tough
First, FHA loans have flexible underwriting guidelines concerning your finances. FHA loans are not flexible when it comes to the house you buy. You must use an FHA-approved appraiser to apply for a loan.
FHA-approved appraisers will make you fix even minor damage before issuing the go-ahead for the loan. You could end up paying for repairs out of pocket with no guarantee of getting the loan.
Get ready to paint, scrape, and install before you even buy the house.
However, you can mitigate some of this by working with an agent familiar with FHA loans. They know what appraisers look for and steer you away from properties that lenders won't fund.
PMI Is a Fact of Life
We touched on PMI earlier. It's the insurance that allows you to skip the high downpayment.
As we noted, you can't get rid of PMI when you have an FHA loan. That means you could pay up to a few hundred dollars a month just for insurance. And that insurance doesn't even benefit you.
PMI usually costs one percent of your mortgage and the bank assesses it as a monthly fee. If you buy a $100,000 house, you'll pay around $1,000 a year. The average family would spend $233 (on a $279,000 loan).
Plus, PMI is no longer tax deductible after the 2017 Tax Cuts and Jobs Act went into effect in 2018.
There Are Other Government Loans Available
FHA loans offer a liferaft for low-income Americans. But they're not your only options.
Other federal government agencies offer homebuyer's programs. If you live or intend to live in a rural area, you might receive help from the U.S. Department of Agriculture.
Are you a veteran? The VA may have a loan that gets you into a house.
Additionally, states, counties, and cities all run home buyer programs. These programs aren't lenders, but they may help you cover costs like your down payment.
Be sure to explore your options - and your lenders - before committing to the first quote you receive.
Is an FHA Loan Right for You?
The FHA backs loans for low-income Americans or those with bad credit to help everyone enjoy a piece of the American dream: homeownership.
There are no FHA loan income requirements - only a minimum credit score and a maximum debt-to-income ratio.
FHA loans mean lower down payments and more flexible terms. But they also come with warning labels that you shouldn't ignore.
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