FHA Versus Conventional Loan For First-Time Buyers

Author: Woodsboro Bank

Categories: Blog

Buying your first home can be a very exciting time, but it comes with a lot of big decisions. A new home is a major purchase, and for many homeowners, it requires a long-term financial commitment in the form of a loan. There are several options when it comes to obtaining a mortgage as a first-time buyer, but many will end up choosing between an FHA and a conventional loan.

Here is a look at the most important considerations.

Defining FHA & Conventional Loans

A conventional loan is a type of mortgage that is insured by a private lender. Also known as conforming loans, they are available with fixed rates or adjustable rates. They generally require a lower debt-to-income ratio, a higher credit score, and a bigger down payment to qualify.

An FHA loan is a type of home loan backed by the government and insured by the Federal Housing Administration. It comes with less restrictive qualifications than a traditional mortgage offered by a bank, making it a good choice for first-time home buyers who are concerned about a low credit score or who are struggling to come up with a down payment.

Credit Scores

Your credit score is a number representing the amount of risk a lender will incur when they loan you money. They come in a three-digit format, with excellent scores being 800 and higher and poor scores falling in the range of 350 to 579. The score is calculated based on a number of factors including your credit history, how your credit is used, the length of your individual credit history, and how often you make payments on time.

Most conventional lenders require a minimum credit score of 620 to qualify for a conventional mortgage. However, it is possible to qualify for FHA home loans with credit scores as low as 500, although borrowers in this category will need to put 10 percent down. With FHA loans, the higher your credit score is, the lower your required down payment will be.

Down Payments

Although many people believe that you must make a 20 percent down payment to receive a conventional loan, it may be possible to get a conventional loan with a lower down payment if you pay private mortgage insurance to protect the lender in the event that you default on the loan. These payments will be built into monthly mortgage payments in most cases.

When it comes to FHA loans, first-time home buyers can put as little as 3.5 percent down on the home as long as they have a credit score of 580 or higher. For those whose credit scores are in the range of 500 to 579, it is necessary to put 10 percent down.

Interest Rates

The interest rates a home buyer can expect to pay on their mortgage depend on whether they choose a fixed rate or an adjustable rate mortgage. With a fixed rate mortgage, the interest rate will remain the same throughout the lifetime of the loan. An adjustable rate mortgage, in contrast, comes with an interest rate that will change periodically according to the prevailing interest rate.

The interest rate you can expect to pay on a conventional loan will depend on certain factors, such as your loan-to-value ratio and credit score. With an FHA loan, the interest rates tend to be more competitive because of the lower risk to the lender and the government’s loan backing. The interest rate on an FHA loan will depend on your income, the amount borrowed, market interest rates, the down payment, your income, and other factors.

Loan Limits

Regulators can change the limits for FHA and conventional loans each year. Conventional loans are subjected to the Federal Housing Finance Agency's conforming loan limit. These limits vary by county.

For 2022, for example, the limit for one-unit family homes is $647,200. In high-cost areas, the limit is $970,800. However, a conventional loan may exceed these limits; borrowers who are purchasing a more expensive home with a conventional loan may be able to qualify for a nonconforming jumbo loan.

Choosing the Right Type of Loan

For first-time home buyers who cannot make a substantial down payment, are carrying a high debt-to-income ratio, or have a low credit score, an FHA loan may be the best option.

For borrowers with a credit score of at least 620, a down payment of 3 percent or more, and a low debt-to-income ratio, obtaining a conventional loan may make more sense.

Discuss Your Home Buying Goals With the Community Bankers at Woodsboro Bank

Contact the community mortgage professionals at Woodsboro Bank today to explore your options for buying your first home. We can assist you to determine which loan suits your financial situation. We will work with you to develop a tailored approach to financing the home you seek.