For decades, it was a pat answer. If the borrower’s home mortgage application had a little ugly around the edges, push them toward an FHA loan.
That’s because FHA loans would accept all of the hard cases that made conventional mortgage lenders turn up their noses. From wee down-payments and less-than-pretty credit to iffy loan-to-value or debt-to-equity ratios, FHA loans were the very best bet.
That may not be the case any longer, says my friend Marcus McCue, Senior Vice President of Guardian Mortgage Company.
Have FHA loans grown hairy legs, gotten more expensive, or have conventional loans become cheaper? What’s happening here?
It’s actually both. Thanks to all the fun we had during the real estate boom, and loosey-goosey lending practices, we consumers get spanked. FHA mortgages now require a mortgage insurance policy (MIP) that costs 1.75% upfront, compared to the past rate of just 1%. Plus, FHA loans also now require an annual MIP payment of 1.2% for a 30-year fixed mortgage (assuming the buyer made a down payment of 5%). Together, these MIP payments are pushing the cost of FHA loans up considerably.
Another past advantage of FHA mortgages was that they allowed family members to provide a down payment, while conventional mortgages did not. Now, however, most conventional lenders are allowing 100% of the down payment from family members, putting both types of loan on even footing in this regard.
Question: Is there some magic number for a borrower’s credit score where they will be better off financially with a conventional mortgage?
Borrowers with scores as low as 660 will, in most situations, find conventional lending to be cheaper. Mid-credit-score borrowers of 720 or greater will save quite a bit by going the conventional route.
Question: Can you give me a real-world example of the difference between FHA and Conventional loans today?
Yes. This example is based on an actual analysis we recently compiled for a borrower. We looked at a home that was $213,500 with 3.5% down (FHA loan) and 5% down (FHA & Conventional). In addition, we looked at a 3.75% rate and a higher 4.125% rate on the conventional loan (as if the borrower was a poorer credit risk) and the conventional loan was still a better choice because there was no MIP.
Money Down Estimated Monthly Payment
3.5% down (FHA – 3.75% rate) $6,394 down, $1,735 monthly payment
5% down (FHA – 3.75% rate) $9,670 down, $1,708 monthly payment
5% down (Conventional – 3.75% rate) $9,919 down, $1,603 monthly payment
5% down (Conventional – 4.125% rate) $10,214 down, $1,533 monthly payment
In the two highlighted examples, the difference between the FHA and the Conventional loan is approximately $37,500 over the course of the loan. In the last example, the lender paid the mortgage insurance rather than the homeowner, which made a difference of over $63,000 over the course of the loan.
Question: If I want to compare a conventional loan vs. an FHA loan for myself, where can I go?
There are some excellent online calculators that will help borrowers and their agents determine which flavor of loan works best in their situation. Check out the online calculator from Radian. For your comparison, select “Borrower-Paid-Monthly (BPMI) Non-Refundable” for a conventional loan. Then you can select the other products you’d like in the comparison.
If you’re an agent looking to help a client, then you may want to delve into the issue a bit more. These sites have FAQs and more technical information:
• Genworth – Conventional PMI vs. FHA resource center
• Radian – Conventional PMI vs. FHA Frequently Asked Questions
• MGIC – Conventional PMI vs. FHA Sheet
If you have additional questions about your particular situation, feel free to contact Marcus McCue at 972-200-3380, [email protected] or on Facebook.