Tuesday, February 19, 2013 - Article by: Blake Kleckner - DiVita Home Finance -
The FHA is about to make some monumental changes to its mortgage insurance (MI) requirements, and the duration of mortgage insurance. So, if you are contemplating getting a FHA loan this information is most definitely for you.
It appears that the FHA seems to think it can continually increase its MI and change its guidelines, under the guise of protecting the FHA's solvency, without any consumer repercussions. That's true as long as those planning to get FHA loans are unaware of what the FHA has done, will be doing soon, and don't yet know about a much less costly, very viable loan alternative if they can only qualify for it, which is not that difficult to do.
To give you an idea of what has transpired with the FHA, from 7/14/08 to 10/3/10 its MI was .55%, so for a loan amount of $300,000, annual MI was $1,375 (.0055 X $300,000), or $138/mo. Below is the FHA's MI history since 10/4/10 for conforming purchase loans that had less than a 5% down payment (DP):
10/04/10 -- .90%
04/18/11 -- 1.15%
040/9/12 -- 1.25%
04/01/13 -- to be increased to 1.35%, and higher for loan amounts greater than $625,500.
Therefore, the MI for the same $300,000 loan starting on 4/1/13 will be $338/mo.--$200/mo. more and almost 2-1/2 times what it was less than 3 years ago! To make matters even worse for those who get FHA loans, the length of time that MI must be paid is changing dramatically.
At least since the beginning of this century, regardless of how low a home's loan-to-value ratio (LTV) declined to, FHA MI was required to be paid for a minimum of 5 years. After that, as long as the LTV was 80% or less, elimination of the MI could occur. Beginning on 6/3/13, FHA MI will be for the life of the loan unless a DP is more than 10%, in which case it will be for 11 years--still more than double what it was. Of course, those who have 10% for a DP probably aren't FHA candidates, so the elimination of MI in 11 years is a moot point.
Now, what does all of this mean to potential FHA borrowers? Actually, they may not have to be FHA borrowers as explained below. If this is the case, they're going to save a ton of money!
There are only 3 reasons home buyers should consider FHA loans. First, they only have the 3.5% minimum required DP. Second, they don't have enough cash reserves needed for closing costs and 2 months of mortgage payments. Third, their FICO scores are less than 620.
Interestingly, the average FICO score for FHA home buyers is 699, so chances are FICO scores aren't causing FHA loans to be purchased. Or, they surely shouldn't be.
That being said, what is left that causes home buyers to opt for FHA loans are the funds needed for closing costs and cash reserves. It's possible to eliminate part, or all, of the closing costs either by including them in the loan amount, by negotiating them with the seller, by a combination of both, or by gift funds given by a family member as explained below.
Gift funds can be used for closing costs and to fulfill the 2 months of mortgage cash reserves requirement. For this to occur, a gift letter must be submitted with the loan package stating that this money is a gift, and it is not necessary to be paid back, so that no new debt is incurred. However, nothing stops the person to whom the gift is given, at some point in the future, from paying it back if he or she feels inclined to do so.
Now, assuming all of the financial requirements above are met, a FHA loan isn't needed, and one can be gotten with private mortgage insurance (PMI). All it takes is a 620 FICO score or higher, which most FHA borrowers have. For the calculations below, a 680 FICO score was used.
First of all, only a 3% DP is required. Using the same $300,000 loan as above, just $9,000 will be needed for the DP instead of $10,500 compared to the 3.5% DP FHA loan, saving $1,500 of your cash flow.
Next, the PMI will be $288/mo. rather than $338/mo., saving $50/mo. Finally, with a FHA loan a 1.75% upfront mortgage insurance premium is required, or $5,250. With a PMI loan, none is required.
Therefore, the first year's savings by getting a PMI loan rather than a FHA loan will be $7,350, and every year thereafter at least $600 on mortgage insurance will be saved. And, if a 5% to 10% DP can be made, the monthly savings will be $60.
Now, for the sake of example, let's say in 5 years a home's LTV declines to 80%. At that time, the PMI can be stopped resulting in a savings of $338/mo. versus the FHA loan, or $4,056 annually. If, again for the sake of example, the home isn't sold for 12 years, that would result in a savings of $28,392 with the PMI loan in years 6 through 12 compared to the FHA loan, and in total for the 12 years $38,142 would be saved ($7,350 +$2,400 + $28,392).
The bottom line is this, if you think you must get a FHA loan, before you commit to it make absolutely certain that you can't, in some creative manner, get a PMI loan instead. If you can, it will definitely save you a bundle of bucks.
On the other hand, if you can't, a FHA loan will still accomplish your objective of being able to purchase a home. Either way, you will fulfill your dream of becoming an American homeowner.
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