FHA loans permit lower credit scores when compared to conventional loans. It is also easier to qualify for an FHA home loan. With conventional loans, the down payment requirement is slightly lower than an FHA loan.

Conventional mortgages are not insured by a federal agency while FHA loans are. These two types of loans differ in qualification requirements. They also have their advantages depending on the type of buyer.

How to compare FHA vs. conventional loans

The debate on the FHA vs. conventional loan begins with the credit score and down payment considerations. Each loan varies in terms of minimum requirements.

Minimum down payment

The minimum down payment required for FHA home loans is 3.5% of the total loan amount for borrowers who have credit scores not lower than 580. Some conventional loans allow 3% for down payments but are only eligible for borrowers who can prove that they have enough savings and have credit scores reaching the high 600s.

>>More: Pros and Cons of a Cash-out refinance

Credit scores

It is easier to qualify for an FHA home loan because of the much lenient credit score requirement. If you have a credit score from 500 to 579, you can still qualify but the minimum down payment required would be 10%.

For conventional loans, a 620 credit score and above is required to qualify. A low credit score could lead to higher interest rates.

Debt-to-income ratios

The debt-to-income ratio also factors in when it comes to these two types of loans. The DTI showcases the percent of your pretax monthly income that you are allowed to spend to pay for debts such as a mortgage, auto loans, student loans, credit card payments, and child support.

To qualify for an FHA home loan, your DTI should be 50% or lower. In some cases, conventional loans allow a DTI of up to 50% but the usual is 43%.

Mortgage insurance

Mortgage insurance helps protect lenders when a default occurs. For conventional loans, borrowers are required to only pay mortgage insurance if the down payment provided is less than 20%. When it comes to all FHA loans, mortgage insurance is required despite any down payment amount.

It is essential to note that FHA mortgage insurance premiums are not affected by your credit score. For conventional loans, private mortgage insurance will cost more for those who have low credit scores. However, it may cost less compared to an FHA mortgage insurance if you have a credit score higher than 720.

If your down payment for an FHA home loan is less than 10%, the FHA mortgage insurance premiums will last for the life of the loan. When you refinance to a conventional loan, you will be able to get rid of the FHA mortgage insurance. For conventional loans, private mortgage insurance is canceled immediately if you reach a 78% equity.

The cost for both the private and FHA mortgage insurance will vary depending on the down payment size.

Loan limits

For both FHA and conventional loans, there is a limit to the allowed amount to be borrowed. The maximum size of the loan varies per county. The loan limits may change per year, depending on the regulators.

For 2021, low-cost areas have an FHA home loan limit of $356,362 while the expensive markets have a loan limit of $822,375. Conventional loans follow the Federal Housing Finance Agency’s loan limits. The 2021 limit is $548,250 for the majority of jumbo loans.

Property standards

When comparing FHA vs. conventional loans, the condition of the property and intended use are essential factors for consideration. There are more stringent standards for FHA appraisals compared to conventional appraisals. Safety and adherence to local codes are highly considered for FHA home loans. Flipping homes or properties are not allowed for FHA loans. On the other hand, a conventional loan can be used to purchase an investment property, a vacation home, or a primary residence.

Refinancing

When it comes to mortgage refinancing, FHA streamline refinancing has the edge. There is no credit check and income verification is also unlikely to be done. Another reason for refinancing an FHA home loan is to be able to get rid of the mortgage insurance payments required every month. If your down payment for an FHA loan is less than 10%, you cannot cancel an FHA mortgage insurance.

FHA vs. conventional loans: Summary

FHA and conventional mortgages have a few key differences:

Conventional loans

A higher credit score is required.

Permits slightly lower down payments.

More liberal property standards are observed.

If the down payment is less than 20%, private mortgage insurance is required. It may be canceled.

FHA loans

Permits lower credit scores.

Will need slightly higher down payments.

Observes stricter property standards.

FHA mortgage insurance is mandatory regardless of the amount of down payment, and it cannot be canceled unless you opt to refinance into a conventional loan.

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