What Is an FHA Loan?
An FHA loan is a mortgage backed by the Federal Housing Administration, an agency within the U.S. Department of Housing and Urban Development. The FHA insures the lender against losses if a borrower defaults. You still borrow from a private lender, like a bank or mortgage company, but on the back end, the FHA insures the loan.
Because the government takes on much of the risk, lenders are able to offer FHA home loans to borrowers who have lower credit scores than many conventional programs allow. Borrowers also help offset that risk by paying an upfront mortgage insurance premium and annual premiums—potentially over the life of the loan.
FHA loans are available with fixed or adjustable interest rates, and fixed-rate loans commonly have 15- and 30-year terms. Borrowers can use them only for owner-occupied primary residences, including eligible 1- to 4-unit properties where the borrower occupies one unit. You can’t use one for a standalone investment property or a vacation home.
FHA Loan Pros and Cons at a Glance
Pros
- 3.5% down payment with a 580+ credit score
- May accept credit scores as low as 500 with 10% down
- Assumable; a future buyer can take over your rate
- Gift funds can cover 100% of your down payment
- May offer lower rates than conventional loans for borrowers with credit scores below 680
- Allows non-occupant co-borrowers
Cons
- Mortgage insurance for the life of the loan (with less than 10% down)
- Loan limits are generally lower than conforming limits
- FHA appraisals place added emphasis on safety and soundness, which can lead to repair requirements that complicate deals
- Owner-occupied primary residences only; no standalone investment or vacation properties
- May be less competitive with sellers in multiple-offer markets
- No automatic equity-based MIP cancellation like conventional PMI
The Pros of FHA Loans
Low Down Payment and Flexible Credit Requirements
With a credit score of 580 or higher, you need just 3.5% down. That’s $10,500 on a $300,000 home. Scores between 500 and 579 may still qualify you for FHA financing, but the minimum down payment jumps to 10%. The program remains available when many conventional lenders require a 620 minimum.
Watch out for lender overlays, though. Individual lenders can set their own minimums above FHA’s floor. FHA’s automated underwriting system may approve debt-to-income (DTI) ratios as high as 57%, depending on the strength of the overall application. That can be more flexible than Fannie Mae conventional loans, which generally max out at 50% DTI.
Assumability: A Real Advantage When Rates Are High
FHA loans are assumable, which means if you sell your home, the buyer can take over your existing loan at your original interest rate rather than taking out a new mortgage. If you lock in at 6.5% today and rates climb to 8% by the time you sell in a few years, your assumable FHA loan could be a selling point that makes your home more attractive than comparable homes with conventional financing.
The assumption requires lender approval and the buyer must qualify under FHA guidelines, but it doesn’t require a full refinance for either party.
Gift Funds, Down Payment Assistance, and Co-Borrowers
FHA allows 100% of your down payment to come from a gift, meaning a parent, relative, employer, or charitable organization can fund the entire amount, as long as you properly document the gift, including a signed gift letter.
You can also layer FHA financing with many state and local down payment assistance programs (DPAs), which first-time buyers may find easier to stack with FHA than with some conventional loan programs.
FHA also permits non-occupant co-borrowers, such as a parent or sibling, to join your loan application and help you qualify using their income without living in the home. This structure can make FHA a practical choice for multi-generational households looking to combine income.
The Cons of FHA Loans
Mortgage Insurance Premiums That Can Last Decades
Most FHA purchase loans require two types of mortgage insurance: an upfront MIP (UFMIP) of 1.75% of your loan amount, plus an annual MIP of around 0.55% for most borrowers, which lenders divide into monthly payments.
On a $300,000 home purchased with 3.5% down (loan amount: $289,500), the UFMIP comes to $5,066, and borrowers typically roll it into the loan balance. Annual MIP would start at roughly $1,592—about $133 per month—and gradually decline as you pay down the loan. Along with the $5,066 upfront premium, mortgage insurance could still cost tens of thousands of dollars over 30 years.
What’s most important to understand is the duration rule. If you put less than 10% down, MIP lasts for the mortgage term—until you refinance, sell, or pay off the loan entirely. Unlike FHA MIP, you can generally request to cancel PMI when your loan balance reaches 80% of the home’s original value. Otherwise, your servicer generally terminates PMI automatically when your scheduled balance reaches 78%.
If you put 10% or more down, your annual MIP ends after 11 years. But at that down payment level, you should compare the numbers with a conventional loan with PMI, which may cost less overall.
Loan Limits That Can Cap Your Buying Power
HUD sets FHA loan limits annually, and they’re generally lower than the conforming loan limits for conventional mortgages. In most areas, that gap can be significant. If the loan amount you need exceeds your county’s FHA limit, FHA financing likely won’t work for you.
Property Standards That Can Complicate Your Offer
FHA loans require a specialized FHA appraisal that evaluates the home’s physical condition alongside its market value. The property must meet HUD’s minimum property standards for safety, security, and soundness.
If the appraiser flags issues, the seller may have to repair them before closing—or the deal could fall apart. In competitive markets, sellers may favor conventional offers to avoid this risk. That means FHA buyers may have a harder time in multiple-offer situations, even when their offer price is competitive.
Red Flags That Can Fail an FHA Appraisal
An FHA appraisal is not the same as a home inspection. The appraiser is primarily evaluating health, safety, and structural integrity, not cosmetic quality or finishing details. The difference matters practically: cosmetic issues generally pass, while structural and safety issues may trigger repair requirements or further review before the loan can close.
Conditions that may trigger FHA appraisal repair requirements or further review include:
- Peeling or chipping paint on homes built before 1978 (because of lead-paint potential)
- Roofing with less than two years of estimated remaining useful life, or with active leaks
- Foundation cracks or evidence of significant settling
- Water damage, mold, or visible moisture intrusion in ceilings, walls, or basement
- Exposed or frayed electrical wiring or other visible electrical issues
- Non-functioning heating system in climates with cold winters
- Non-functioning plumbing or evidence of sewage backup
Outdated kitchen or bathroom finishes, worn flooring, older appliances, small wall cracks, and faded paint are generally cosmetic. However, they may require further review if they point to a safety, security, or structural problem.
If the appraiser flags an issue, you may be able to ask the seller to make the repairs before closing, with lender approval, or arrange to complete eligible repairs yourself after closing. You might also negotiate a lower price or walk away and reclaim your earnest money, depending on your contract contingencies.
Pro tip: For homes that need significant work, you could consider an FHA 203(k) rehabilitation loan, which lets you finance both the purchase price and renovation costs in a single loan. It takes more processing time, but it can turn a fixer-upper into an FHA-eligible property when it otherwise wouldn’t qualify.
FHA vs. Conventional vs. VA: Which Loan Fits Your Situation?
FHA may make the most sense when your credit score is below 680 and your savings are limited. Otherwise, conventional loans may come out on top, especially if your down payment reaches 10% or more. If you’re eligible for a VA loan, that program may offer the most favorable terms—no down payment and no mortgage insurance.
For borrowers with scores between 580 and 679, FHA loans may carry lower interest rates than conventional since lenders price conventional risk more steeply for lower-credit profiles. That rate discount can partially offset FHA’s MIP cost in the early years of the loan.
Above a 680 credit score, conventional PMI rates may drop enough that a conventional loan costs less overall, especially since you can generally request PMI cancellation at 80% LTV.
If you qualify for a VA loan, run the comparison before defaulting to FHA. The VA funding fee for a first-time VA loan user at 0% down is 2.15% of the loan amount, which is a one-time upfront cost. However, some borrowers, including those receiving VA disability compensation, don’t have to pay the funding fee. Compare that to FHA’s MIP, which continues every year for the life of the loan when you put down less than 10%, and the total MIP cost may surpass the VA funding fee cost within the first few years.
How to Get Rid of FHA Mortgage Insurance
If your FHA MIP lasts for the mortgage term, the main way to get rid of it is to wait until you’ve built enough equity in your home and refinance into a conventional loan. Reaching 20% equity may allow you to avoid PMI on the new loan. You’ll need sufficient equity and must meet the lender’s credit, income, and appraisal requirements.
Anytime you’re considering a refinance, it’s a good idea to do the break-even math. As an example, if refinancing into a conventional loan costs $6,000 in closing costs and lowers your total monthly payment by $133, divide $6,000 by $133. Your break-even point would be about 45 months, or 3 years and 9 months. If you plan to stay in the home past that point, you could recoup the closing costs. Of course, if you’d be moving into a higher interest rate, refinancing might not make sense.
An FHA Streamline Refinance could be another path to explore if you’re less concerned with MIP, but still want to try to lower your monthly payment or interest rate. It lets you refinance into a new FHA loan at a potentially lower rate and generally less documentation than a standard refinance. FHA doesn’t require a new appraisal, although individual lenders may impose additional requirements.
The Streamline refinance won’t eliminate MIP, but it could lower your interest rate and monthly payment.
Do You Qualify for an FHA Loan?
To qualify for the 3.5% down payment tier, you need a minimum credit score of 580. Scores between 500 and 579 may qualify for the 10% down tier. Below 500, FHA financing is not available.
You’ll also need verifiable income and a documented two-year employment and income history, though you don’t need to spend those two years with the same employer. In addition, the DTI ratio generally needs to be at or below 43%, though some borrowers may qualify with ratios as high as nearly 57% through FHA’s automated underwriting system, depending on the strength of their overall application.
There is no income ceiling on FHA loans. The limits are on the loan amount, not on what you earn.
The property must be your owner-occupied primary residence. You can’t use an FHA loan to buy a standalone rental property—but you can purchase a 2- to 4-unit multifamily building as long as you live in one of the units.
After a Chapter 7 bankruptcy, the standard FHA waiting period is two years from the discharge date. After a foreclosure, it’s three years. Chapter 13 filers may be eligible after 12 months of on-time plan payments with written permission from the bankruptcy court.
The Takeaway
FHA loans can offer a path to homeownership for buyers who may have difficulty qualifying for conventional financing, especially if their credit score is below 680 or their savings cover the down payment but leave little cushion.
The number to keep in mind is your mortgage insurance cost over time. If you’re putting less than 10% down and plan to stay in the home for the long run, MIP can add up. In other words, in addition to the short-term considerations, think about your long-term plan, such as refinancing at the 20% equity mark.
If your score clears 680 and you can put 10% down, compare FHA and conventional loans side by side. Depending on your rates and mortgage insurance costs, conventional may be the better option.
Frequently asked questions
What are the disadvantages of getting an FHA loan?
FHA loans can offer benefits as well as some potential drawbacks, including annual mortgage insurance that lasts for the life of the loan if you put down less than 10%, stringent property requirements, and generally lower loan limits than conventional mortgages.
Why don’t some real estate agents and sellers like FHA loans?
FHA loans have stricter property standards and appraisal requirements, which can sometimes complicate or extend the closing process. When comparing competing offers, sellers may prefer buyers using a conventional loan over an FHA loan.
Is it better to get an FHA or conventional loan?
Choosing between an FHA and a conventional loan depends on your specific situation. For some homebuyers, such as those with lower credit scores or less cash saved, an FHA loan can give them a quicker route to homeownership. Conventional loans may be better for homebuyers with stronger credit or more money available for a down payment.
What is the best home loan program if my credit score isn’t great?
For people with credit score challenges, an FHA loan may be a good option if they meet the program’s other requirements. It has a lower minimum credit score than many conventional loans.
Do I ever stop paying mortgage insurance on an FHA loan?
FHA borrowers generally pay an upfront mortgage insurance premium and annual MIP. Annual MIP lasts for the mortgage term if they put less than 10% down. If they put 10% or more down, annual MIP ends after 11 years.