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FHA Loans vs Conventional Loans - Comparing 20 percent down - Eye opening - 10-11-10

FHA loans vs conventional loans

 

FHA loans have been the major talk in the news as of lately. One loan officer e-mailed me the other day, asking if FHA is going away. I asked, how did you come up with this?  Because three realtors had mentioned it to them. I have not heard a thing, but let's use common sense.  If FHA loans would go away, then the housing market would crash for good. Just my opinion.

Just the other day, a realtor made a comment stating that the buyer was better off putting their 20 percent down with a conventional mortgage and not with a FHA mortgage, so they could avoid the mortgage insurance. Okay, in theory, this sounds great, but there is a huge unknown that is not talked about. The borrower's credit score, which was a middle score of 623.  Yes, you could still do a conventional loan down to a 620, if it gets approved in the system. But let's look at the numbers and understand this better.

 

 

 

The example below is based on a $275,000 purchase price with 20% down. One reason why conventional rates are a little higher and more costly in this scenario as in FHA rates is because Fannie Mae and Freddie Mac have added penalties per se. If you are putting down less than 30% and your credit score is less than 720, certain fee penalties would apply to you, which would increase your rate and or points.  The credit score that I am going to use is 623 and I will still show in this example that FHA loans are cheaper (depending on your goals), even with 20% down while trying to avoid the mortgage insurance. 

 

 

***And keep in mind, some lenders have penalties on FHA mortgages with credit scores under 660 or can't do them. And many lenders can't do FHA loans under 640 now. And beware of those that promise you a mortgage with scores under 620. It can happen, but they aren't as easy as advertised. Please read - Credit scores/FICO scores - I need a 700 credit score? ***

FHA loans vs conventional loans with 20 percent down

Disclaimer :  These rates are examples of today's pricing, and the spread shown in the example is real with the same profit margin for both sides. The conventional rate also includes the penalty for the 623 credit score, hence why the interest rate is much higher.

 

 

One main fact is that you will be adding $2,200 onto your principal balance if you did the FHA mortgage because of the FHA one-time mortgage insurance premium.  If you do the math, the conventional loan isn't better until after 2.7 years. But keep in mind, the FHA loan becomes better after year 5. Why is this?  because the monthly mortgage insurance falls off after 5 years. 

So, simple math. In the first 5 years, you would have spent approximately $2,360 more on the FHA loan scenario.  But now you are saving $70 a month on the FHA loan and the principal balance is being reduced a tad quicker. So in theory, if you stayed in the house for 7 + years, the FHA loan would be better for you.

Another thought? You would need an extra $2,800 more for the conventional loan also, because of the steep penalty for the credit score.

Reminder : You will be subtracting a few more dollars per month from your principal because your interest rate is lower, which would offset the interest that you would write off on the 4.625% rate. Just something else to remember, but consult your tax consultant or CPA. 

 

FHA Myth - Some people, including loan officers, without doing the math, will say that FHA loans are more expensive because of the Upfront Mortgage Insurance. Because in this scenario, you are adding $2,200 to the FHA loan and because of the new monthly mortgage insurance change. This kind of mortgage myth needs to be squashed on all levels. It starts with the borrowers goals.

 

This person is also thinking about wanting to do extra work within the property, and the 203-k loan is very useful for this situation.

 

Important Key Point - Don't fall for the trap when a loan officer would say, just refinance down the road. That could be a huge risk. Nothing is guaranteed for the future.

 

 

 

Disclaimer : All of the information is based on my knowledge and of opinion. I will always say that each and every borrower is not the same. And if you are buying in a USDA area or a Veteran, a USDA loan or a VA loan could be better.

 

 

For more FHA loans vs conventional loans comparisons :

 

 

 

Donw Payment Series - Cash is King - A Must Read -

  • FHA loans vs Conventional loans - Don't be cash poor!! - Part 2 of 3 - 01-29-10  I want to show even a bigger difference if you put less down. And even if you decided to put less than 10% down, because cash is king now. You can't predict even next week. And keeping in mind of some misleading rumors, that you need more than 10% down to buy a house.

 

 

 

 

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For more information on FHA loans, please go to this link. The FHA Expert

For important mortgage insight to watch for, please read : Consumers need to be aware of these Red Flags!

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For information about FHA myths & FHA rumors, please read : FHA Myths & Rumors

 

Copyright © 2011 by Jeff Belonger of Infinity Home Mortgage Company, Inc

Comment balloon 13 commentsJeff Belonger • October 11 2010 10:31AM

Comments

Jeff, this post obviously took a lot of time. If FHA goes away we are out of business (and I mean Realtors and lenders).

FHA has providing low down payment home loans since 1934 with below market default rates. Which, IMHO, proves that "skin in the game" is really overrated when it comes to measuring someones ability/willingness to repay.

Great job!

Posted by Greg Cook, Mortgage Consultant NMLS ID# 283159 (Platinum Home Mortgage) almost 9 years ago

Thank you for teaching us about FHA versus Conventional mortgages. Don't Conventional mortgages drop off the PMI too after it reach 22% automatically? How does that come into play?

Posted by Loreena and Michael Yeo, Real Estate Agents (3:16 team REALTY ~ Locally-owned Prosper TX Real Estate Co.) almost 9 years ago

Jeff,

It never ceases to amaze me at the ignorance of people both in the business and consumers!

FHA was endangered 3 to 4 years ago. I'd have gladly sprung the trap to hang them, but today FHA is normally the best program available. Despite their history ending FHA today would be like cutting off your nose to spite your face.

Then there's the whole idea of putting 20% down.  Consumers have been so miss lead!  Would your short sellers (I've got a good chance at being right.) who paid $400,000 for the house they're selling today for $275,000 be better off if they'd put 20% down or 5% (Mat be only 3%.) down? Ether way they're losing $$125,000 plus sales cost say another $25,000, That's a $150,000 loss! Those who put 5% down lost $20,000 out of pocket, Those that put 20% down lost $80,000 out of pocket!

If the seller had a choice when he purchassed, putting only 5% down he'd have still had $60,000 to curry his problem or start over with. Yes, the payment goes up with less down, but better to bought a slighter house in the first place.

Defaulting is defaulting! It makes no diffrence in the past tense whether you defaulted on 80% or 95%!

Bill

Posted by William J. Archambault, Jr. (The Real Estate Investment Institute ) almost 9 years ago

Jeff I can not image that FHA will be going away anytime soon!  What kind of mortgage broker listens to a Realtor anyway - LOL

Posted by Bill Gassett, Metrowest Massachusetts Real Estate (RE/MAX Executive Realty) almost 9 years ago

FHA simply put is a damn good loan period end of story, if it goes away we should all become worried

Posted by Marilyn Boudreaux, Lake Charles LA Century 21 Realtor (Marilyn Boudreaux, Century 21 Bono Realty) almost 9 years ago

 

GREG... . I totally agree 110%... in this scenario, there is a reason why the borrower is putting down 20%... but if they didn't have to, I have done my cash is king series above also. And I agree, that the skin in the game is overrated...  thanks and thanks for the compliment..

LOREENA.... . kind of...   if you have less than 20% down, it is stated that MI is suppose to fall off once you hit the 78% mark... BUT... it is still the discretion of the MI company... meaning that there is a clause that states if you are late, behind in payments, etc, etc... that they don't have to drop the MI>.... and many loan officers either never knew this or would just ignore this, not telling the borrower.  On the FHA... you will always have monthly mortgage insurance for 5 yrs no matter what... but it does fall off automatically..even when hitting 78% ltv... hope this helps some and thanks for the question..

 

WILLIAM... . no matter what year, FHA in trouble or not, we can't lose FHA mortgages... and if the gov't bailed out Fannie and Freddie, then why not everything else, right?  lol  Seriously though, that is why FHA has made changes recently.. they are trying to be pro-active, even though I think they waited a few yrs longer.

In regards to the 20% issue.. again, this scenario above with 20% down was for a specific reason. Otherwise, I advise them and show them that it's not necessary. If you didn't read my 3 part series above, my cash is king series, please do. And I agree about the default issues that you mentioned... well, the kinds of defaulting..

 

BILL... .  well, apparently this one... lol  But hey, just terrible water cooler talk between some realtors... or faulty info from a loan officer that was a few years behind the times. But not me.. lol   Thanks

MARILYN.... .  worried?  How about we all just run away to the islands, because the economy would crumble... in my opinion.. thanks

 

Posted by Jeff Belonger, The FHA Expert - FHA Loans - FHA mortgages - USDA loans - VA Loans ( Social Media - Infinity Home Mortgage Company, Inc) almost 9 years ago

I havent heard anything about FHA going away... can you imagine???

Jeff, as always, solid information here. Certainly a benefit to a customer who has a FICO score below 700.

Posted by John Cannata, Texas Home Mortgage - Purchase or Refinance (214-728-0449 http://TexasLoanGuy.com) almost 9 years ago

 

JOHN... well, some keep hearing really stupid rumors... and thanks for the polite compliment..

 

Posted by Jeff Belonger, The FHA Expert - FHA Loans - FHA mortgages - USDA loans - VA Loans ( Social Media - Infinity Home Mortgage Company, Inc) almost 9 years ago

Jeff, thank you for taking the time you obviously took to put this together.  I remember a client one time who told me her credit was "too good" to take an FHA loan and she DEMANDED a conventional.  Okay, I guess the client is always right, LOL. 

Posted by Juli Vosmik, Scottsdale/Cave Creek, AZ real estate 480-710-0739 (Dominion Fine Properties) almost 9 years ago

Great information Jeff.  Very interesting comparison of the differences in today's rates.

Posted by Gabe Sanders, Stuart Florida Real Estate (Real Estate of Florida specializing in Martin County Residential Homes, Condos and Land Sales) almost 9 years ago

Jeff

Great work... this a good comparison for our customers... thank you

Rick

Posted by Rick Kellow, FHA & Reverse Mortgage Expert (Cherry Creek Mortgage) over 8 years ago

great post! tons of good information in this one post - This could have been 10 posts with the information you packed into it! Good job!

Posted by Darren Copeland, Darren Copeland (Leader One Financial) over 6 years ago

Darren.. thanks.. but a lot of this is old info. After 19 years, I got out of the mortgage business 2 years ago. Haven't been on AR for about 3 years. Just stopped back to look at something. thx

Posted by Jeff Belonger, The FHA Expert - FHA Loans - FHA mortgages - USDA loans - VA Loans ( Social Media - Infinity Home Mortgage Company, Inc) over 6 years ago

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