A conventional loan is often better if you have good or excellent credit because your mortgage rate and PMI costs will go down. But an FHA loan can be perfect if your credit score is in the high-500s or low-600s. For lower-credit borrowers, FHA is often the cheaper option. These are only general guidelines, though.
FHA loans require a lower minimum down payment and a lower credit score than many conventional loans. FHA loans are designed for low- to moderate-income borrowers who otherwise might not qualify for a conventional loan. These benefits make them popular with first-time homebuyers.
"Conventional loans have higher minimum requirements than FHA and require a larger down payment," Yates said. "Sellers prefer a buyer with conventional financing over FHA financing because they feel the buyer is in a better financial position."
An FHA loan has less-restrictive qualifications compared to a conventional loan, which is not backed by a government agency. You need to have a higher credit score, lower debt-to-income (DTI) ratio and higher down payment to qualify for a conventional loan.
Cons: Why a conventional mortgage may not be right for you
The eligibility requirements for conventional loans are more stringent than government-backed loans. Conforming loans are sold to Fannie Mae or Freddie Mac soon after being created to help keep mortgages affordable for homebuyers.
If you're unable to make a large payment upfront, conventional loans are available with a down payment as low as 3%. In most cases, borrowers save money in the long run with a conventional loan because there's no upfront mortgage insurance fee, and the monthly insurance payments are cheaper.
Borrowers who take out FHA loans will likely face higher costs upfront and with every payment, and it could signal that they aren't ready for a mortgage. You'll also have to pay mortgage insurance, and FHA loans are less flexible than conventional loans.
To convert an FHA loan to a conventional home loan, you will need to refinance your current mortgage. The FHA must approve the refinance, even though you are moving to a non-FHA-insured lender.
An FHA loan allows for lower credit scores and can be easier to qualify for than a Conventional loan. However, Conventional loans may not require mortgage insurance with a large enough down payment. The benefit of FHA vs Conventional down to the individual needs of the borrower.
FHA loans tend to have higher closing costs than conventional loans, but because FHA loans allow the seller to pay for more of your closing costs than conventional loans, they may actually be cheaper.
Typical Closing Times: By Loan Type
It takes approximately 47 days to close on a conventional mortgage loan in accordance with Fannie Mae's qualified lending standards. Conventional refinances are faster and take around 35 days to close on average.
Conventional Loans
A conventional loan is a mortgage that's not insured by a government agency. Most conventional loans are backed by mortgage companies Fannie Mae and Freddie Mac. Fannie Mae says that conventional loans typically require a minimum credit score of 620. But lenders can raise their own requirements.
Typically, mortgage lenders want you to put 20 percent down on a home purchase because it lowers their lending risk. It's also a “rule” that most programs charge mortgage insurance if you put less than 20 percent down (though some loans avoid this).
Closing costs are paid according to the terms of the purchase contract made between the buyer and seller. Usually the buyer pays for most of the closing costs, but there are instances when the seller may have to pay some fees at closing too.
Getting rid of PMI is fairly straightforward: Once you accrue 20 percent equity in your home, either by making payments to reach that level or by increasing your home's value, you can request to have PMI removed.
The only way to cancel PMI is to refinance your mortgage. If you refinance your current loan's interest rate or refinance into a different loan type, you may be able to cancel your mortgage insurance.
FHA mortgage loans don't require PMI, but they do require an Up Front Mortgage Insurance Premium and a mortgage insurance premium (MIP) to be paid instead. Depending on the terms and conditions of your home loan, most FHA loans today will require MIP for either 11 years or the lifetime of the mortgage.
Generally speaking, FHA loans might be a good fit if you have less money set aside to fund your down payment and/or you have a below-average credit score.
FHA loan requirements are more flexible than many other programs. Home buyers need only a 580 credit score and 3.5% down payment to be eligible for an FHA home loan. Other requirements apply, too; for instance, you need a steady history of income and employment.
In fact, bad credit is one of the most common causes of denial — for any type of mortgage loan. 2. Down payment. You will need to make a down payment of at least 3.5% of the purchase price or the appraised value of the home, whichever amount is lower. That is the minimum down payment for the FHA program.
The more money you put down, the better. Your monthly mortgage payment will be lower because you're financing less of the home's purchase price, and you can possibly get a lower mortgage rate.
30-year fixed-rate mortgages
The 30-year conventional fixed-rate mortgage has long been popular due to its fixed interest rate and lower monthly payments. However, since the interest payments are spread out over 30 years, you'll pay more interest over the life of the loan than you would on a shorter-term mortgage.
The Conventional 97 Loan is a 3% down payment option for any borrower. You don't have to be a low-income home buyer either, as is necessary for HomeReady and Home Possible loans, two other low down payment options Fannie Mae and Freddie Mac offer.