Almost anyone who wants to buy a home can, thanks to a variety of mortgage programs available for different types of borrowers.
Even those who can’t fathom saving up a 20% down payment can still purchase a home they love, thanks largely to FHA loans. FHA loans allow borrowers to put as little as 3.5% down. But FHA loan income requirements and qualifications differ slightly from other mortgage programs.
So what is required to take out an FHA mortgage loan? Keep reading below to see how you can purchase your dream much sooner than you thought was possible.
What are FHA Loans?
FHA loans are not funded by the Federal Housing Administration (FHA). Rather, they are loans provided by traditional mortgage lenders and banks but insured by the FHA.
The government backing on these loans helps lenders provide loans to riskier borrowers without taking on the additional risks themselves. Borrowers putting less than 20% down must also pay a monthly mortgage insurance premium.
This program translates to a more lenient borrowing process, with lower down payments and credit scores. With this type of financing available, first-time homebuyers, who aren’t selling a home and using their equity to purchase their next property, can still purchase a home without waiting years to save a large downpayment.
FHA Loan Income Requirements
FHA loans are great financial tools, opening the door to homeownership for many people. But what does it take to qualify for a loan backed by the FHA?
One of the most important factors is your income; how much you make, what type of work you do, and how long you’ve been doing it. That means having consistent employment can be a positive factor when you submit your loan paperwork. Additionally, if you do have any gaps in employment, you need to be able to explain the reasons behind those gaps clearly. Plus, your lender will also want to verify your employment throughout the loan process, even during the closing process.
The FHA doesn’t require a fixed income amount to qualify for an FHA loan, and no minimum or maximum income would qualify or disqualify you from an FHA loan. Obviously, the most important thing is to have enough income to cover the mortgage payment and meet the debt-to-income ratios as outlined by the program.
Before you start the process of securing your FHA mortgage, it is best to know your debt-to-income ratio (DTI). This ratio is how much money you spend each month on debt repayment versus how much income you have.
So if you make $4,000 per month but pay $1,000 monthly to pay payments on an auto loan, a student loan, and a credit card, your debt-to-income ratio would be 25%. If you want to reduce your DTI, you would want to try to pay off debt or eliminate payments. The less you have going out in debt payments, the better it reflects on your ability to pay your mortgage payment every month.
FHA loans will typically require borrowers to have a DTI under 50%. The lower your DTI, the better. Less debt might allow you to get a larger mortgage, giving you more options when selecting a home.
Additionally, the FHA program requires that you only spend a certain amount of your monthly income on your housing costs, which is 35%. If you go over that 43%, then you could be at risk of not being approved for your FHA mortgage. You can submit paperwork to explain why your ratio is that high to determine whether you can still get loan approval.
But the biggest part of this equation is having verifiable income. The easiest way to prove you make enough money is by providing your pay stubs. Lenders generally require borrowers to have a steady income for at least two years in the same line of work. So if you recently started a job in a new industry, it’s best to wait until you have two years of paystubs before applying for a mortgage.
For those who are self-employed, you need to have tax returns that can verify your income. While the FHA mortgage program requires at least two years, your lender could ask for at least three years. They want evidence that your income is consistent and steady, but they will also be looking for consistency in your debt payments, which is why you should also be aware of your credit score.
FHA Loan Credit Score Requirements
Income isn’t the only factor when you take out a loan for a home. The other big component is your credit score, which is reported by several agencies. When you make timely payments, those payments are reported to the credit agencies and can positively impact your credit history. Your credit score shows how trustworthy you are as a borrower. The higher your score, the more likely it is you’ll get a loan, and the lower your interest rate will be. So making on-time payments can end up saving you money on your mortgage, plus you avoid additional costs and late fees.
The FHA requires a minimum credit score of 500 to secure a loan, but obviously, you want it to be higher to enjoy the lowest possible downpayment.
However, if you would like to put just 3.5% down, you’ll need a credit score of at least 580. Anything less than 580 will require you to put 10% down.
And while the FHA allows for borrowers with a score as low as 500 to be considered for the program, individual lenders may set their own credit limits. If you have a new or low credit score, you may need to shop around for lenders who can work with your situation. You might also need to provide explanations for the less-than-perfect aspects of your credit report. Underwriters are looking for borrowers that are lower risk because they have the income and credit history to demonstrate they can afford the monthly payment and will make them on time.
FHA Down Payments
With FHA, most borrowers put down between 3.5% and 10%, depending on their credit score. On a $200,000 home, that amount is between $7,000 and $20,000. Based on these percentages, the more expensive the home, the greater the down payment amount that will be needed.
The down payment must come from an approved source, meaning a lender must verify where the money came from. Your downpayment can be from your cash reserves, either savings or checking, or from the sale of any investments you have. By saving consistently, you can have the necessary funds to fulfill this requirement.
Alternatively, the down payment can come in the form of a gift from a relative or friend or even an employer or charitable organization. However, the funds need to be a true gift, and there cannot be any expectation of repayment.
You cannot receive gifted funds from anyone who may have a financial interest in the property or your mortgage loans, such as the builder, your real estate agent, or the property seller. However, there are plenty of ways to utilize this gift option effectively if you are close to having enough downpayment but don’t want to wait until you can save the rest.
Along with the down payment, borrowers typically need to front closing costs when buying a home. These costs pay many of the costs involved in processing the loan, such as loan origination fees, appraisal fees, title searches, and more.
Typically, closing costs amount to 3% to 6% of the home’s purchase price. With conventional mortgages, these costs need to be paid upfront. But with an FHA loan, many of these expenses can be rolled into the loan, which means you have more flexibility to find a home that fits your budget.
Private Mortgage Insurance
Lastly, borrowers need to be aware of private mortgage insurance (PMI), which is an additional monthly fee required for borrowers putting less than 20% down. This insurance helps alleviate the risk a lender takes when providing a mortgage with a low down payment.
For your new loan, you’ll pay 1.75% of the total loan cost upfront, though this can be rolled into the mortgage. You’ll need to pay about 1% of the loan amount per year in monthly installments. Once your home has enough equity as defined by your lender, you can complete the refinancing process, thus reducing your monthly payment by eliminating the PMI payment.
So if your original FHA mortgage is $200,000, you’ll pay around $2,000 per year or around $166 per month in PMI. Obviously, that will impact your monthly payment, so you need to consider it when determining the right home to purchase.
Buy a Home and Build Wealth Now
Even though there aren’t any set FHA loan income requirements, you’ll need to meet plenty of other requirements to qualify for this incredible program.
It’s designed to help those who can’t meet the requirements of conventional mortgages to ensure everyone can purchase a home and build long-term wealth.
Do you need some financial advice and mortgage tips to see which program is right for you? Reach out to us here at 7th Level today to see how our mortgage specialists can help you buy your dream house much sooner rather than later.
7th Level Mortgage is a leading one-stop mortgage company providing deeply informed, custom-tailored assistance with each mortgage transaction phase. If you are searching for a home loan in New Jersey, Pennsylvania, Delaware, Maryland, New York, or Florida, please contact us today so that we can determine the best Mortgage Lender to place your loan with and get you the best possible rate and program.