Determining Creditworthiness
The FHA must deem a borrower creditworthy in order to issue a loan guaranty. Remember: the FHA does not give direct loans. Instead, it offers to provide insurance on a private loan on behalf of the borrower. The borrower gets lower interest rates, and the FHA helps encourage home ownership through this mechanism. Yet if the borrower defaults, the FHA must pay out. As a result, the FHA wants to make sure there is very little chance of a borrower defaulting. The borrower must have a good credit score and a record of repaying debts. The FHA does help first-time home buyers who may have a short credit history. In this case, the borrower may have a slightly lower score, but the borrower's credit report should still be free of late payments, delinquencies and other negative reporting information.
Providing a Record of Federal Debts
If a borrower owes money to the federal government, that borrower will be evaluated based on how the federal debt has been managed. Any debts that have been delinquent can be cause for immediate denial of an FHA loan. This includes federal student loans, loans guaranteed by the Small Business Administration and tax debt. Any borrower with outstanding tax debt to the IRS will need to repay this sum prior to gaining approval for an FHA loan. Further, if a borrower has defaulted on a federal loan or the borrower's wages have been garnished to pay taxes, that individual will not qualify for an FHA loan.
Proving a Stable Income
The income requirement on an FHA loan is slightly more flexible than it may be with some private loans. While it is required that all borrowers have a stable income, low income borrowers are still encouraged to apply. These borrowers may receive a much lower guaranty amount, however, meaning the potential limits of their private mortgage loan will also be low.
Supplying a Down Payment
The FHA does offer assistance for low down payment loans. A borrower will need to provide at least 3.5 percent down in addition to closing costs. This is much lower than the standard 10 to 15 percent down required on private mortgages. The good news is that, even with this low down payment, all FHA guaranteed loans are issued with fixed rates. Low down payment loans will have higher monthly payments, however, since a greater FHA mortgage insurance premium is required on the low down payment option. If a borrower supplies at least 20 percent down, the mortgage insurance premium is extremely low.