Christopher Hundley is a parent and a writer who writes about business, technology, and other topics of interest.
What Is an FHA Loan?
Home-buying is one of the best ways to build wealth. Rather than throwing money away on rent each month, monthly mortgage payments help you acquire equity in an asset you own. Your home will not only provide shelter but can also be tapped for credit in case you need or want to make significant purchases.
Many people believe that you need tens of thousands of dollars for a down payment. However, certain mortgage products allow you to put down a relatively small amount. An FHA mortgage is a mortgage backed by the Federal Housing Authority, geared towards first-time home-buyers and designed to encourage home ownership.
When considering this kind of mortgage, it’s a good idea to understand all of the costs involved first to determine if it’s right for you.
1. Credit Cleanup
Before applying for a mortgage, you’ll want to pay down outstanding consumer and student loan debt you have on the books. Doing so can help boost your credit score, which in turn can help you secure a lower interest rate. The lower your interest rate, the more money you’ll save over the life of the loan.
Start with current debts. If you have old debts that are in collections, prioritize those last unless the creditor agrees to remove the notice of collection from your credit report upon receipt of payment. Removing collections can significantly improve your credit score.
2. Your Down Payment
You can put down as little as 3.5 percent of the purchase price of a home with an FHA mortgage. A $100,000 house will require a down payment of just $3,500. You can, of course, put more down, which will save you interest payments over the life of the loan.
FHA loans are not the only types of mortgage product that allow you to put down as little as 3.5 percent. With a solid credit score, reliable income, and verified assets, you can put down as little as 3 percent on a conventional mortgage as well.
3. FHA Insurance
With a conventional loan, if you pay less than 20 percent of the purchase price as a down payment, you’ll pay what’s known as private mortgage insurance (or PMI). You’ll stop paying this amount once you’ve accrued 20 percent equity in the home.
No matter the size of your down payment, with an FHA loan, you’ll pay FHA insurance for the life of the loan. You can refinance your loan down the road and obtain a conventional mortgage, which will rid you of FHA insurance payments (and if you’ve got 20 percent equity in your home, you’ll forgo the need for PMI.
4. Closing Costs
With FHA mortgages, sellers can contribute up to 6 percent of closing costs. When you structure your offer, you can make this request. You’ll then make an offer that includes the price of the home, plus an estimate of the closing costs, which you will get financed from your lender. However, it’s essential to understand that asking the seller to pay for closing costs can make your deal less attractive to the buyer than others, especially in a competitive real estate market.
What comprises closing costs, exactly? Closing costs include title-related services, including a title search and title insurance. The lender first must verify the legal ownership of the property and then that the title is free and clear of claims, such as liens. Lenders also usually require title insurance that protects them and property owners from mistakes made during the title search process.
You’ll be expected to pay a year’s worth of homeowner’s insurance premiums as well, though you may be able to forgo this if your down payment is 20 percent or more. Additionally, you may have transfer taxes to pay, as established by your state or local government.
Read More From Toughnickel
Lenders’ fees are also included in closing costs. This may be called an “origination fee” and can consist of administrative and processing fees, underwriting fees, and other assessments for the work they handle.
5. Earnest Money
When making an offer, you may be asked to put down a thousand dollars or more to signal the seriousness of the offer. This money, known as “earnest money,” is usually placed in an escrow account and returned to you at closing.
6. Brokerage Fees
If you’re working with a buyer’s agent, you’ll likely pay a brokerage fee on top of their commission. The commission is usually three percent of the purchase price, which comes out of the closing costs. However, the fee you’ll pay directly to the brokerage firm whose broker you’re working with is usually several hundred dollars.
7. Inspection Costs
Typically, part of your costs will include those for a whole home inspection. A general home inspector will look at the electrical and sewer systems, chemicals, gases, and mold. They’ll also look at the chimney, the HVAC setup, the foundation, the roof, as well as the soil.
Depending on the age of the home and any visible cracks, floor, or ceiling sloping, you may want to have a separate assessment performed by a professional engineer. This is especially recommended for older homes. You want to make sure that the property you’re buying is structurally sound and stable. It may cost extra, but if you doubt you’d be better off with an independent engineer, just watch Judge Judy.
8. Money for Repairs
Hopefully, you’ll be able to negotiate most, if not all, of the necessary repairs during settlement. But it’s possible you won’t. With an FHA loan, the property must meet the U.S. Department of Housing and Urban Development (HUD)’s health and safety standards before the home buyer can close. Typical repairs include peeling paint in older homes, infestations, leaking roofs, inadequate exits in case of fire, and foundation issues, among many, many others. The seller should cover these costs, but in some circumstances, some repairs may be made by the buyer as part of the purchase negotiation.
You should set aside some money for repairs you need to make after settlement, as well as repairs that will crop up over time.
9. Property Taxes
Some of your property taxes will be folded into your monthly mortgage payments, while others will be assessed annually. You should be well aware of what property taxes you need to pay and when before you close, or you may get caught in a cash crunch. Remember, even after you make your final mortgage payment, you’ll be paying property taxes as long as you own the house. Make sure those costs are those you can and are willing to pay over the short and the long term.
10. Moving Costs
There are many professional moving companies offering a variety of packing and moving services. You should examine the price range of those in your area and set aside an appropriate amount (including tips!) for movers to make your move as painless as possible.
For those who are on a budget, you can find folks looking to make a few extra bucks on websites like Craigslist that can help you move. Caveat emptor, however. The home-buying process can be stressful enough without dealing with a no-show or otherwise unprofessional movers. There’s also the DIY method, but friends and relatives can be flaky. Save yourself some agitation by saving some money for the services of a proper moving company.
11. Housewarming Party Costs
Whew! You’ve closed, you’ve moved in, you’ve unpacked, and you’ve started to settle in. Savor this accomplishment. Celebrate it with some close friends and relatives. You deserve it!
This article is accurate and true to the best of the author’s knowledge. Content is for informational or entertainment purposes only and does not substitute for personal counsel or professional advice in business, financial, legal, or technical matters.
© 2019 Christopher Hundley