If you are considering an FHA loan, it’s likely that you are a first time homebuyer, and you probably have plenty of important questions. As you are deciding whether an FHA loan is best for you, it is vital that you understand the way an FHA loan works. One of the most important details of an FHA loan to consider are the fees involved. Before we go over the fees, let’s look at the reason for these fees by covering how an FHA loan works.
How does an FHA loan work?
An FHA loan is insured against default by the Federal Housing Administration (FHA). Essentially, the FHA guarantees that a lender won’t have to write off a loan if the borrower defaults. If a borrower defaulted on an FHA loan, FHA will pay that loan back. In order to maintain the capability to pay back these loans in case of a default, FHA charges two types of fees; the upfront mortgage insurance premium, and the annual Mortgage Insurance.
Upfront Mortgage Insurance Premium (MIP)
Since FHA is responsible for paying back an FHA loan that has been defaulted on, it is important that FHA maintains enough capital reserves. In order to maintain these reserves, FHA charges an upfront MIP of 2.25% of the loan amount. This amount is paid in the beginning when the loan is financed.
Annual Mortgage Insurance (MI)
In addition to the upfront MIP, you will also be responsible to pay an annual mortgage insurance that is broken down into monthly payments. The FHA annual MI works similarly to the annual insurance premium you pay on your car. When you get car insurance, you have a annual premium that most people choose to pay in monthly installments. In the same fashion, FHA charges an annual premium of .55% for mortgage insurance that is broken down into monthly payments. These monthly payments are automatically included in your total monthly mortgage payment.
You’ve found a home for a purchase price of $300,000, and you have provided a 3.5% down payment of $10,500 using an FHA loan. Here is how we can figure out how much the two fees will cost:
$300,000 – $10,500 = $289,500 Loan Amount
$289,500 x 2.25% = $6513.75 Upfront MIP
$289,500 x .55% = $1592.25 Annual MI, or $132.68 a month
While they do have additional costs, FHA loans have provided many buyers the opportunity of home ownership that may not have otherwise been possible using other products with stricter criteria. FHA allows many first time buyers put little down, with minimum reserve requirements, looser credit criteria, and competitive rates. FHA is a great loan program that has helped many become homeowners, who otherwise, would not have been able to.
If you have any further questions, or would like to know if FHA is the right loan product for you, visit my website at www.AlissaAlvarez.com