What are the drawbacks of an FHA loan?

6 Replies

Hello all!

I have heard so much about the FHA loan and how credit score can be marginal and you only need 3 percent down, sounds too good to be true , any insight ?

Thanks !

There's going to be up front mortgage insurance premiums to pay since you're bringing so little down to the table as far as a down payment. 

FHA basically requires a property not to have any major plumbing, wiring, electrical, structural or foundation issues. This is a good thing to protect a normal home buyer. But some times those kind of properties with problems are good for investors to snatch up. That won't be happening with a normal FHA loan.

One other thing that comes to mind is: Since you're making such a low down payment, you'll have to have enough income to qualify for a loan amount of 96.5% of the purchase price.

It's 3.5% now and not 3%. 3 was back in the old days.

There is ongoing mortgage insurance for FHA that you cannot get rid of and it's VERY expensive.

FHA took a bath over the last 5 years with defaulting loans and had big losses they had to cover. Their solution was to raise the down payment to 3.5 , increase the upfront fee, and then hit you with insurance they keep making go up higher and higher. I do not know what it is even at anymore but they raised it 2 to 3 times in one year recently.

The only benefit to FHA now is 3.5% and the whole down payment can be gifted. Conventional you can find 5% down if score is good but 10% is easier to come by. You cannot be gifted the full amount of the down payment. You need to at least do half. These are basics so research some more.

No legal advice.     

Thank you all for the great advice , it just seems so difficult trying to acquire a home without capital or great credit

@Joel Custodio  

The posters above are correct for the most part. An FHA property is a great way to begin your real estate investing career. I am in the middle of doing an FHA deal with 3.5% down, and it has been great to do thus far.

However, I would steer you in the direction of an FHA 203k loan, which allows you to roll the purchase price of the home, and any renovations you want done to it, all into one mortgage amount, putting only 3.5% down. (For example, my project looks like this: Purchase Price: $85,000, Renovations: $85,000, = Total of $170,000, with 3.5% down, Total Loan Amount is $164,050.

Yes, there are expensive upfront fees, and mortgage insurance is a horrible thing to have to pay. That is why I swear by the FHA 203k loan, which will allow you to buy a project that needs work, and after the work is completed (using the bank's money, not yours) you should have built 20% or more equity in your home. That will allow you to refinance into a conventional loan, and not have to pay any mortgage insurance. (My PMI amount for a $165,000 loan amount was just shy of $200/month...yikes.)

That being said, the major drawbacks to any FHA loan are as follows:

1. You MUST occupy the property purchased with an FHA loan for at least one year. There are some very particular exceptions, but this is the rule and the reasoning behind the program's existence.

2. Property Mortgage Insurance. This amount must be carried throughout the life of the FHA loan. This sounds terrible and painful to me, so I recommend the 203k which will allow the buyer to add equity and refinance out more quickly.

3. Lots of red tape, holdups, delays, and requests for obscure documentation. Banks want to know everything about you and your finances, and this is only amplified by the FHA loan. Be aware of this and just give them what they need--it will go by more quickly this way.

I am helping a number of BP'ers through their first FHA/FHA 203k deals currently, and would be happy to walk you through the process as well. Feel free to reach out and best of luck.

The MIP insurance, last I looked was about 2 1/4 points and is amortized over the life of the loan, about twice what a 90% LTV conventional loan is, while it is high, it's not a deal breaker.

Another mention goes to the appraisal, they are very tough in some areas, the home really needs to be in very good shape, except for the 203 program for rehabs. Some sellers wouldn't list a house accepting FHA due to the appraisers being so picky.

While it does get you in a home with little out of pocket, might be better to save the other two per cent and go conventional

Also, check USDA if you're in a smaller town or rural.

With either there should be an active "Bond Money" program, some can work with FHA and you can obtain higher loan amounts and closing costs. Realtors and lenders will know.

All of these have occupancy requirements, not for investment properties, initially. :)

@Bill Gulley  Thank you all for your extremely informative responses, very much appreciated!!

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