Pros and Cons – Conventional Loan or FHA Loan?

Purchasing a home is probably the largest purchase you’ll ever make in your lifetime, so you want to get the best possible mortgage loan terms.

If you’re new to the mortgage loan process, you may be wondering whether an FHA loan or a conventional loan would be best for you. Below is info on both types of loans as well as pros and cons of each.

Difference Between FHA and Conventional Loan

While FHA and conventional loans both involve obtaining financing from lenders to purchase or refinance homes, there are slight differences between the two.

Conventional loan are mortgage loans a homebuyer or potential homebuyer gets from banks, credit unions or private lenders.

In exchange for the loan, the individual makes monthly payments that include both the principal amount and interest.

If the borrower fails to make the payments, the homeowner can lose the home through foreclosure. Both the lender and the borrower can lose their investment.

FHA loans are also mortgage loans that provide the homebuyer with money to purchase a home.

However, one major difference is that FHA loans are backed or guaranteed by the Federal Housing Administration.

With an FHA-backed loan, the lender is required to purchase mortgage insurance, which guarantees that the lender will not lose their investment if the borrower fails to make the payments.

Pros and Cons of FHA Loans

Pros

• Lower down payment required
• More lenient credit score requirement – consumers can get an FHA loan with credit scores as low as 580.
• Cash and monetary gifts can be used for down payment
• Homebuyers who previously lost their homes to foreclosure can still get an FHA loan after improving their credit scores.
• Seller can provide up to six percent of the money for closing costs.
• FHA loans allow individuals not living in the home to be co-borrowers.
• Allow refinancing with lower equity amounts
• The government backs the loan

Cons

• Requires both monthly mortgage insurance and an upfront mortgage insurance premium.
• There is a limit of how much a consumer can borrow based on the location of the home.
• Mortgage insurance is much more expensive than private mortgage insurance that might be required with a conventional loan.
• The borrower may end up paying more over the life of the loan because of the lower requirements.

Pros and Cons of Conventional Loans

Pros

• Mortgage insurance usually not required
• More economical for borrowers with good credit scores
• Borrowers may pay less over time due to no mortgage insurance requirement.
• Loan fees can be negotiated.

Cons

• Stricter credit score requirement – Consumers must typically have credit scores of at least 600.
• Higher down payment is required.
• Sellers may help with closing costs but usually only up to three percent of the amount.
• They require a certain debt-to-income ratio.
• Because the lender determines interest rates, they can be higher than with an FHA loan.
• More criteria goes into determining eligibility if borrower can’t pay at least 20 percent down payment.

What About VA Loans?

Veterans and military personnel also have the option to purchase a home with the help of a VA loan. A VA loan is a mortgage loan that’s backed by the Department of Veterans Affairs. These loans also come with several benefits, including the following.

• No mortgage insurance required
• No down payment required
• Lower interest rates
• Mortgage is assumable
• No cap on the amount the homebuyer can borrow