An FHA loan is a type of mortgage that is guaranteed, but not directly funded, by the U.S. Federal Government.
Instead, borrowers must apply for an FHA loan from a mortgage lender that has been approved by the U.S. Federal Housing Administration (FHA).
The maximum limit for FHA loans varies by state, but it is rare for financing to exceed $730,000 for a 3.5% down payment.
The FHA loan program was created at the height of the Great Depression after the Federal Housing Administration established the National Housing Act of 1934.
This act aimed to stimulate the housing market by creating an affordable class of loan for individuals with poor credit history and lower down payment offers.
Who’s Eligible for an FHA Loan?
The two key qualifications for FHA loan approval are a 3.5% down payment and a 580 FICO score. If your FICO score is below 580 and above 500, you can still obtain an FHA loan if you come up with a 10% down payment.
While your down payment and FICO score are key factors in securing an FHA loan, there are several other eligibility requirements you need to meet:
- You must be a legal U.S. resident and hold an active Social Security Number.
- You must hold a job and have a two-year history of employment.
- Any instance of bankruptcy must be more than two years ago.
- Any instance of foreclosure must be more than three years ago.
- Yearly back-end repayments, which include mortgage payments, credit cards, and student loans, cannot typically exceed more than 43% of your gross annual income.
- Yearly front-end payments, which include mortgage payments, property taxes, and insurance fees, cannot typically exceed 31% of your gross annual income.
FHA Loan Insurance
Because of their accessibility to high-risk borrowers, FHA loans include two separate insurance policies. We’ve broken down each mortgage insurance premium (MIP) here:
- Annual MIP: Your annual premium is split into monthly charges. Mortgage providers calculate your premium by assessing the loan-to-value (LTV) ratio, the loan amount, and the loan term.
- Upfront MIP: If you are approved for an FHA loan, you will need to pay a one-time upfront premium. The premium amount is 1.75% of the home loan and can be paid after closing negotiations or rolled into the mortgage itself.
Why Use an FHA Loan For an Investment Property?
Unfortunately, FHA loans cannot typically be used to purchase investment properties, vacation homes, or rental homes. However, exceptions to this financing condition can be made depending on the classification of your investment property.
According to the FHA, you can use FHA financing for an investment property if you are able to prove that the property is also your primary residence.
This means that you can purchase a multi-unit duplex or triplex with an FHA loan. So long as you actually live in one of the apartments, you can rent out the remaining units.
Getting a Foot in the Door (Literally)
Breaking into property investment via conventional financing requires significant upfront investment.
If you’re a middle- or low-income home buyer, saving up a 20% down payment can lock you out of property investment for years.
Although FHA loans can increase your long-term mortgage costs, it is often the only way for fledgling investors to overcome the entry barriers to property investment.
Accessing an FHA 203(k)
If you’re thinking of purchasing a run-down multi-unit property, the FHA 203(k) condition allows you to roll renovation and repair costs into your FHA loan.
This is particularly beneficial for investors who do not have enough liquid funds to pay for repairs in addition to a down payment.
Reach Out to a Local Real Estate Agent for Help!
If you’re still in doubt about FHA loans and whether they are suitable for an investment property, a good first step is partnering with a trustworthy real estate agent.
A local agent will have experience in property investing and can help guide you through the key features and requirements of different financing options.