FHA Loans Explained

An FHA loan is a mortgage made by a regular lender and insured by the Federal Housing Administration, an arm of the U.S. Department of Housing and Urban Development. The FHA does not lend you the money. It promises the lender that if you default, the government covers part of the loss. That insurance is the whole point: it removes most of the lender's downside, so the lender can approve a lower down payment and a lower credit score than a conventional loan ever would.

That is why FHA exists. It was created in 1934 to open homeownership to working families who could not clear a bank's stricter bar, and it still does exactly that job today. If your credit is rebuilding, your savings are thin, or your debt-to-income ratio runs high, FHA is often the program that turns a "not yet" into a closing date.

The cost of that flexibility is mortgage insurance, paid by you, that protects the lender. Understanding how that insurance works, and when it makes FHA the right call versus a conventional loan, is what the rest of this page is for. As a broker, Home Loans Inc shops your FHA file across a wholesale lender network on one application, which matters because lenders add their own credit overlays on top of FHA's rules, so the same borrower can be approved by one lender and declined by another on identical numbers.

Every FHA loan carries two layers of mortgage insurance premium (MIP), and this is the single most important thing to understand before you choose FHA over conventional.

The first layer is the upfront MIP, a one-time premium charged at closing. Most buyers roll it into the loan amount rather than pay it in cash, so it adds to your balance instead of your cash to close.

The second layer is the annual MIP, which despite the name is divided into twelve and added to your monthly payment every month. The amount depends on your loan term, loan size, and how much you put down.

Here is the part that surprises people, and the reason this page exists: on most FHA loans, annual MIP lasts the entire life of the loan. It does not fall off when you reach 20% equity. The only way to remove it permanently is to refinance out of FHA into another loan, or to sell. The one exception is putting 10% or more down at the start, which causes MIP to drop off after 11 years. Put less than 10% down, and MIP rides with the loan until it is paid off or refinanced.

This is the core decision. If you will likely refinance or move within a few years, the lifetime-MIP cost may never catch up to you. If you plan to keep the home and the loan for the long haul with a stronger credit profile, a conventional loan whose mortgage insurance can be cancelled may cost you less over time. We model both before you choose. Compare directly on our conventional loans page.

One of FHA's quietest advantages is how flexibly it lets you fund the down payment. Unlike some loan types that require the borrower's own seasoned savings, FHA allows your full 3.5% down payment and your closing costs to come from approved sources, which opens the door to buyers who have the income to carry a mortgage but have not stockpiled cash.