5 Things You Need To Know About FHA Loans

Think you know everything about FHA loans? What if I told you most people are wrong about them and it's costing them their dream home? FHA loans are often labeled as the last resort when it comes to first-time homebuyers, but the truth is they're one of the best-kept secrets when it comes to home ownership. In this video, we'll break down what FHA loans really are, bust myths around them, and give you 5 things that you should know that could end up saving you thousands of dollars. Let's dive in and see if an FHA loan is your golden ticket to An FHA loan is a government-backed mortgage designed to help more people obtain home ownership. They're perfect for those with lower credit scores or limited savings, but the problem is the misconceptions around them keep people from exploring this option. Make sure you stick around to the end because I'm going to talk about how FHA loans work with multifamily properties and why some of their requirements might not be quite as strict as you think. One of the really cool things about an FHA loan is it's probably the most flexible loan out there when it comes to qualifying. And that's because not only do they allow credit scores as low as 500 with a 10% down payment, but they also have the most flexible guidelines when it comes to your debt-to-income ratio, which essentially allows you to qualify for more home. And that takes me to the first thing that you need to know as someone considering an FHA loan, and that's that FHA loans are not bad loans. I know that there's a lot of people out there saying that FHA loans are not great loans, that you shouldn't use them. And the reason people are saying this is because they don't truly understand what FHA is. Unfortunately, it has a really bad rap in that people believe only those with lower credit scores or those with lower down payments should consider an FHA loan. But in all reality, that's not really the problem that most people have. Most people have a problem with the mortgage insurance that's associated when it comes to FHA loans. When you purchase using an FHA loan, because you're putting less than 20% down to buy that home, you're going to have monthly mortgage insurance, which means in addition to your mortgage payment, in addition to your property taxes, your homeowner's insurance, you're also going to pay mortgage insurance every single month on top of those other payments because you're putting less than 20% down. Now, I often have people asking the question about mortgage insurance. Why do I have to have mortgage insurance to protect me? And the reality is it's not there to protect you. It's there to protect the lender in case you end up defaulting on your loan because they're allowing lower credit scores, because they're allowing a lower down payment. You're essentially a higher credit risk than someone with higher credit scores, with a higher down payment. Therefore, they charge this mortgage insurance to help offset that risk. Now, in addition to the monthly mortgage insurance, one of the things about FHA loans that's not ideal is that they also have upfront mortgage insurance, which means regardless of your credit score, regardless of your down payment, you're paying 1.75% of the base loan amount and that's going to be financed into your mortgage. Let's say, for example, you're buying a $500,000 home and you're doing the 3.5% down option with FHA. Well, that means you're going to need a down payment of $17,500 in order to use that loan, which means you're going to have a base loan amount of $482,500. But on top of that, you're going to have that 1.75% upfront mortgage insurance that I mentioned a moment ago, which in this case equates to $8,444, which means you're actually financing $490,943. So yes, part of your initial 3.5% down payment is getting eaten up by this upfront mortgage insurance. And because of that, a lot of people out there believe that you shouldn't do an FHA loan, that it's a bad loan, and that you should rather wait until you have at least 20% down to buy a home so that you can avoid mortgage insurance altogether. And what I will tell you based on experience is it would take years for people to save that additional 16.5% for a 20% down payment, which means while they're waiting, they're actually continuing to pay rent, they're missing out on that forced savings of homeownership, and they're likely missing out on appreciation of that home. In fact, I had a client purchase in the middle of COVID using an FHA loan. And because home values went up so much during that period of time, they were actually able to refinance out of that FHA loan within the same year to a conventional loan and not only get into a better loan program, but also get rid of the mortgage insurance altogether. And had they waited until they had the full 20% down, chances are they still wouldn't be homeowners today. In fact, that same property that they purchased back then is up about 25% in value from where they originally purchased. Now with that, I want you to understand that's not a normal scenario. You're not normally going to get that type of appreciation that quickly, but I also don't want you to go into the process thinking that mortgage insurance is bad just because you have to pay this additional fee. The way I look at mortgage insurance is that it's the cost of doing business. If you don't have that mortgage insurance, chances are you're not able to purchase a home at all. So rather than looking at FHA as a bad loan because they allow lower credit scores, or they allow a lower down payment, or the fact that it has mortgage insurance, rather, look at it as an opportunity to become a homeowner quicker because you don't have to save more money, because you don't have to have a perfect credit score, or because you don't have to save a full 20% down in order to buy a home. Which is going to take me into the second thing that you must know if you're considering using an FHA loan, and that's just because you meet the guidelines for FHA doesn't mean you're going to be approved. Now earlier in the video, I mentioned that they allow you to buy a home with a credit score as low as 500, as long as you have at least 10% down. And they also allow you to purchase with as little as 3.5% down if you have a 580 credit score. And oftentimes what I have is people reaching out to me saying, I have the 500 credit score and the 10% down, or the 580 and the 3.5% down, and they're telling me I don't qualify. And that really comes down to a couple of different factors. Just because you meet the basic credit and down payment qualifications doesn't mean you're meeting all the other qualifications when it comes to FHA. In addition to those qualifications, you also have to be buying the home as a primary residence. It cannot be an investment property, which means the has to be owner occupied. On top of that, you have to meet certain debt to income requirements when it comes to buying a home. And while FHA is the most flexible out there when it comes to DTI, your debt still cannot exceed a certain ratio versus your income. Otherwise, you're just not going to qualify. Now I know what you're saying. Hey, Jeb, I did that. I met all of those requirements that you've said in all your other videos. And they told me that I still wasn't approved. Well, there's something else that you need to understand. Some lenders out there have overlays on their programs, which means even though FHA allows certain qualifications, they allow certain credit scores, certain down payments, that doesn't necessarily mean the bank has to approve you for that loan. Some banks have additional guidelines on top of those guidelines. So instead of the 580 with 3.5% down, they might say that you need a 640 with 3.5% down in order to be qualified. But this is where I want you to listen carefully. If you think you meet the guidelines and someone has told you no, don't just walk away with your head in your hands saying, I don't qualify. I can't buy a home. I'm not going to do this. Make sure you check with another lending source. Occasionally, people walk into the bank or to a credit union. And if I'm being honest, banks and credit unions aren't really good at doing FHA loans. They typically have a box. And if you don't fit inside that box perfectly, then you're not going to qualify for one of their loan programs. But understand there are other options out there like mortgage brokers who are approved with these banks, but they also have access to other lenders that do things outside of that normal box. Now, if your qualifications are way off, then a broker is not even going to be able to help you. But in the case that you meet the guidelines that we've talked about in today's video, and you're getting a no, but you think you might still qualify, make sure you check with a mortgage broker, somebody that's experienced in doing FHA loans, just so they can go over your information to see if you qualify. Now, if you're watching this video, you're not sure where to start. You want a second opinion, or maybe you're starting with your first opinion and you want to do me a favor and reach out to our team with that link below. Do me a favor if you're finding any value in today's video and hit that thumbs up. And if you want to stay updated on content like this, do me a favor and subscribe to the channel. So in follow-up, meeting the minimum requirements doesn't guarantee loan approval, which takes me into the third thing I want to talk about, and probably the most misunderstood of all five. And that's that multifamily properties aren't as easy to qualify for as a lot of people talk about online. One of the really cool things about an FHA loan is they allow you to buy up to four units with just a 3.5% down payment. Now, in theory, that sounds really, really cool because you can buy a four-unit property, live in one of the units, and rent out the other three in order to help pay for your mortgage. But here's the catch that no one really talks about, and that's the FHA requires something called a self-sufficiency test when you're buying more than two units. And I know what you're thinking, what is a self-sufficiency test? Well, what you do is you take 75% of the rents that are coming in on that property. So if you're living in one of the units and you're renting the other three out, they're going to take 75% of those other three units' rents. And here's the problem, those rents have to cover the entire mortgage, including property taxes, including insurance, including your principal and interest payments, in order for that lender to allow you to only put 3.5% down. Now, in some areas of the country, you can still make this work. But in high-cost areas like California, Florida, Texas, it is very, very difficult to get a four-unit property qualified under the self-sufficiency test with only a 3.5% down payment. And this kind of goes back to what I was talking about earlier. Just because FHA says they will do it doesn't necessarily mean every property and every borrower is going to qualify. In fact, the only properties that I'm really seeing meet these guidelines are those priced in the two, three, maybe $400,000 price point. Anything above that is probably not going to meet the self-sufficiency test if you're only putting the minimum down payment. Now, the fourth thing I want to talk about is that FHA loans are not just for first-time homebuyers. There's this belief out there because they allow a minimal down payment, because they allow lower credit scores, that it's a first-time homebuyer loan, and that first-time homebuyers are the only people that can use them. That simply couldn't be more false. Anyone can use an FHA loan. In fact, you can use FHA as many times as you want. Now, there are some additional rules about having multiple FHA loans at one time, but understand that anyone can use FHA. And the reason I say that is because a lot of people go into the process, they have say 5% down, they have good credit scores, and because they've watched videos like mine on YouTube, they think, hey, I'm going to use a conventional loan because a conventional loan is better than an FHA loan because of some of the things that we talked about today. In fact, they don't even know that they can use FHA because they think FHA is for first-time homebuyers only, and maybe they own another house or whatever. But understand what happens more often than not is when a lender puts a side-by-side comparison down of FHA versus a conventional, especially when you're only putting the minimum down, many times FHA is going to come out as the better loan program when it comes to the monthly payment because FHA loans typically have lower interest rates than those of conventional loans. And on top of that, the mortgage insurance is usually less than conventional loans in many cases as well. So if you're considering buying a home, you're a first-time homebuyer, you're somebody maybe that's purchased multiple homes, don't rule out FHA just because you watched a couple of people online talk crap on it. Make sure your is going through FHA, they're going through conventional, putting everything in front of you and ultimately letting you make the decision. Don't let them talk you out of it, but rather they should be giving you the option to decide which loan program is best for you. Now with that, there's this belief out there that FHA loans are super strict and that when you go through the appraisal process that they're going to not allow you to buy certain homes or what have you. And that's really a myth. You need to know that FHA loans aren't nearly as strict as a lot of people out there say they are. Yes, when doing an appraisal, they are going to look for health and safety items, which means if the property doesn't have a heater, it doesn't have a stove, doesn't have certain things in the property, they're going to mark that and it needs to be corrected. But that's a benefit to you as a buyer. That's not a bad thing for you as a buyer, it's a good thing because that way you can use that as leverage in working with the seller in order to get them to do certain things to the property that they might not otherwise do. So rather than look at FHA as a bad thing, rather look at it as another option. Have your lender show you side-by-side comparisons of everything, then ultimately you can decide which loan program is best for you. Now, if you are a first-time homebuyer, somebody going through the process, looking to get pre-qualified, looking to see if you can qualify for an FHA loan, not sure where to start, do me a favor and use that referral link in the description below to connect directly with our team. And with that, if you're looking to buy a home, there are five things that you absolutely have to avoid and you can see them in this video here.