96.5% FHA Loans vs. 95% Conventional Loans

FHA Loans vs Conventional loans is an important discussion. Since you can no longer drop the MIP on an FHA loan, I wanted to show a comparison between a 3.5% down payment FHA loan and a 5% down payment Conventional loan. I think it may encourage some buyers to save up a bit more to get 5% down for a Conventional loan.

Not only can you drop the PMI on a Conventional loan at some point in the future if you meet certain requirements, the PMI is far cheaper on a Conventional loan, than the MIP on a FHA loan. Below are some examples to illustrate this. These numbers are hypothetical, and do not reflect actual mortgage rates.

FHA loan option:

• 30-Year Fixed Rate
• INTEREST RATE (EXAMPLE ONLY): 4.125% (5.659) with 0 points
• 3.5% minimum down payment
• $400,000 sales price
• $14,000 down payment
• $386,000 loan amount
• $6,755 is the 1.75% FHA Upfront Mortgage Insurance Premium, which is financed into the loan amount.
• $1,903 a month mortgage payment (principle, interest, and the financed Upfront MIP)
• $431 a month is the monthly mortgage insurance. (You can never get rid of this cost).
• The total monthly mortgage payment would be around $2,335.

Conventional loan option:

• 30-Year Fixed Rate
• INTEREST RATE (EXAMPLE ONLY): 4.50% (4.984) with 0 points
• 5% minimum down payment
• $400,000 sales price
• $20,000 down payment
• $380,000 loan amount
• $0 is the Upfront Mortgage Insurance Premium; there is no Upfront MIP on a Conventional loan.
• $1,925 a month mortgage payment (P&I)
• $212 a month is the monthly mortgage insurance. (You can get rid of this cost after your loan is at an 80% loan-to-value).
• The total monthly mortgage payment would be around $2,137.

As you can see in this analysis of FHA Loans vs Conventional loans the PMI cost is much cheaper on a Conventional loan, and the monthly mortgage payments are about the same.

Now let’s assume you were able to pay down your loan to 80% loan-to-value in five years. For an FHA loan, you would end up paying about $24,897 in monthly mortgage insurance, along with the $6,755 Upfront MIP, which totals $31,651 over a five year period. If you went with a Conventional loan option, you would pay about $12,730 in monthly mortgage insurance with no upfront premium. This could result in substantial long-term cost savings for the borrower.

Although a 5% down Conventional loan may seem like the more viable option in the long run, it is important to note that there are some benefits to an FHA loan that some borrowers may need in order to qualify for a loan. Below is a list of pros and cons to consider in determining whether a Conventional or FHA loan is right for you.

Gift Money:

A Conventional loan requires the gift come from an immediate family member (mother, father, brother, sister, or grandparent). FHA allows the gift to come from the borrower’s relative, employer, charitable organization, governmental agency, or a close friend who doesn’t have any interest in the sale of the property (such as the seller, real estate agent, builder, etc).

Co-Borrower:

FHA loans allow non-occupying co-borrowers to be people besides an immediate family member, whereas on a Conventional loan, the non-occupying co-borrower has to be an immediate family member. Also, on Conventional loans, if you are going to have a non-occupying co-borrower, you need 10% down. You cannot have a non-occupying co-borrower on a 5% down loan. In order to put 5% down on a Conventional loan, all parties have to occupy the property.

Credit Scores:

FHA allows for lower credit scores than on a Conventional loan.

Appraisal:

The appraisal may have a higher likelihood of coming back with required repairs on an FHA loan than it does on a Conventional loan. Appraisers are usually held to a higher standard as far as the condition of the property on an FHA loan, and I do see more FHA appraisals come back with some repairs, usually minor.

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