Is It Easier To Qualify for FHA or Conventional?
First-time homebuyers who are just starting out often wonder whether it's easier to qualify for FHA than conventional.
In a word, yes.
In fact, that’s the whole reason FHA was created. Its purpose was and is to give people a chance to buy a home when they can’t meet conventional lending requirements.
That doesn’t mean FHA is a loan of last resort. Many well-qualified buyers choose FHA for other reasons.
But the fact remains that people who think they can “never qualify to buy a home” might be surprised at what FHA can do.
FHA Allows Credit Scores Down To 500
To say FHA is lenient on credit is an understatement.
Per FHA guidelines, someone can qualify with a score of 500 with 10% down. For a 3.5% down payment, the applicant needs a 580 score.
The bare minimum score for conventional is 620, and you’ll pay sky-high rates and mortgage insurance at that credit level. Conventional loans are best for those with scores of 680 or higher.
FHA Can Issue An Approval With a Debt-To-Income Ratio of 56%
FHA is fantastic for those with lower incomes because it is permissive about your debt-to-income ratio, or DTI.
DTI compares your monthly debt service costs versus gross income. Someone with $5,000 per month in gross income and $2,500 per month in debt and housing payments has a DTI of 50%.
FHA allows DTIs up to 56% when the rest of the file is strong. Conventional loans limit DTI to around 45%, with only a few programs and scenarios allowing 50%.
In today’s world of high home prices and high interest rates, more people are turning to FHA to afford more.
A Low Down Payment Is Easier To Get With FHA
Conventional loans require a minimum 3% down payment, and FHA requires 3.5%.
On the surface, FHA seems more strict. However, conventional loans place heavy stipulations on their 3% down programs.
For example, conventional loans require you to be a first-time buyer or make 80% or less of your area’s median income to qualify for any of its 3% down loans.
FHA, though, has no first-time buyer requirement, no income limit, and no geographic restrictions within the U.S.
FHA mortgage insurance is probably cheaper
Conventional loans require high mortgage insurance fees and other costs for those with low down payments and mid-to-low credit scores. FHA mortgage insurance is similar for most borrowers.
According to MGIC, a private mortgage insurance (PMI) provider, someone with a 680 score and 3% down will pay PMI of $302 per month on a $300,000 loan.
If the same borrower used FHA, they would pay just $137 per month on the same loan amount. That’s a savings of $165 per month.
Because lenders include mortgage insurance in debt-to-income ratios, FHA’s lower mortgage insurance directly reduces the applicant’s DTI, making it easier to qualify.
Why Are FHA Loans More Lenient?
FHA loans are insured against borrower default. Conventional loans offer lenders no such protection.
For example, a borrower gets an FHA loan. They have a medical emergency and can’t work. They fall behind on their payments and the lender has to foreclose.
In this unfortunate situation, the lender would lose money if not for FHA’s insurance policy.
Original home price | $300,000 |
Loan balance | $290,000 |
Lender costs to foreclose | $25,000 |
Total costs | $315,000 |
Foreclosure sale price | $270,000 |
Loss for lender | -$45,000 |
If not for FHA mortgage insurance, the lender would lose $45,000 in this example. But FHA insurance kicks in to pay back a portion or all of the loss. Due to this backing, lenders aren’t as skittish about lending to borrowers with weaker profiles.
Conventional loans rely on the private mortgage insurance policy in the case of foreclosure. But private mortgage insurance companies aren’t as lenient about low down payments and low credit scores as the federal government.
In turn, conventional loans are harder to get without a fairly inside-the-box borrower profile, good credit, and 5% down or more.
Should You Choose FHA?
FHA is easier to qualify for most of the time, but it comes with drawbacks too. If you can qualify for conventional, consider both loan types side by side to make the right choice.
Get a quote and cost breakdown for each loan with your preferred lender.
