Fannie and Freddie Mac both oversee FHA and conventional loans. While they’re both excellent for first time home buyers, there are some key differences that are important to point out. Depending on how big of a down payment you can make, how comfortable you are with mortgage insurance, where you want to buy a home, and how quickly you’d like to start house hunting; these factors could make all the difference in terms of which loan type is best for you.
You don’t actually have to make a 20% down payment when looking to buy a home! This brings your home buying dream much closer to reality than you previously thought possible.
Granted, low down payments are only possible for home buyers who have good FICO scores. If you’re not sure where to start, check out our MyFICO credit hack solution to learn more about how you can boost your credit score.
But if you’ve got a FICO score of 640 or above, you’re looking at a much cheaper home buying process.
Here are the key differences between FHA and conventional loans when it comes to down payments:
You might think that conventional loans are a no-brainer given this information, but keep reading so you know all the ins and outs of both.
There’s one thing that both FHA and conventional loans fall prey to due to the low down payment options they have: mortgage insurance.
Private mortgage insurance, also known as PMI or MIP (upfront mortgage insurance premium), is a necessary cost that’s used to provide your lender with security. That is, in the event that you can’t pay your mortgage. However, there are two major distinctions between FHA and conventional when it comes to how PMI is calculated.
FHA loans charge you an upfront 1.75% MIP that you can roll into your loan or pay at closing. You're then charged a monthly PMI payment that you need to make throughout the life of your loan. The rate of your PMI is 0.85%, though if you put 10% down it drops to 0.80%.
You can actually get rid of the lifelong PMI on FHA loans—but only if you refinance to a conventional loan.
Conventional loans, on the other hand, determine your PMI payment based on your FICO score and down payment. Another perk of conventional loans is you can stop paying PMI once you’ve paid off 80% of your loan—which saves you a lot more money than the FHA loan.
But here’s the thing, you also need to consider the price of the home you want to buy. FHA loans and conventional loans have different loan limits, therefore they make you approach home buying from different angles depending on the city you want to live in.
Why? Well, FHA loan limits vary depending on the median home values of the county you want to live in. For Miami-Dade that’s $402,500 for a single family home.
Conventional loan limits have been consistently expanding to accommodate the rise in home values across the country. Just last year, the FHFA expanded conventional loan limits from $510,400 to $548,250.
FHA loans have some annoying features like inflexible mortgage insurance premiums, and a 3.5% down payment compared to the lower down payment for conventional loans, BUT, borrowers have lower limits in order to get qualified for these loans, so don’t look away from the gift horse just yet.
In order to qualify for FHA loans, you need a minimum FICO score of 580. Conventional loans raise the bar by requiring a FICO score of at least 620, plus you can’t have a debt to income ratio that exceeds 50%. For FHA, your debt to income ratio can be slightly higher at 56.99%.
So there you have it! While it might seem like a lot, these key differences are important when calculating how much interest and PMI you’ll be paying over the life of your loan.