Which mortgage is best for my client?

Thinking realitorFHA vs Conventional

When determining the best loan program for a client, we are looking at about 12 factors that can change the rate, closing costs, and even how much home they can afford.  Among these factors are Property Value, Credit score, Debt to Income Ratio, Loan to Values, Loan program, Occupancy Type, Loan Terms, Types of Collections and charge offs on the credit report, es-crowing or not es-crowing, Zip Code location of the home, property type, and Loan Type.

When all the above factors are taken into account, we can determine rates, Closing costs, the best program.  In the final analysis, our goal is to get the client the lowest combined payment, with the lowest cash out of pocket that will net them the largest net worth over a 15 year period.  By the way, Conventional is not always better than FHA and the reverse is true.  Here is what I have seen.

  1. Down-payment – When looking at minimum Down Payments, FHA always wins at 3.5% down vs 5% down for a Conventional loan.
  2. Rates/Credit Score comparison- This is where a big difference can come into play.  In today’s Rate environment, with scores of 720 or above FHA is about 1/2 better in rate than a conventional ie. 3.25 vs 3.75
    1. FHA does not have any costs for credit scores above 680 as a general rule.  Conventional has a cost of 1.25 Discount points which can convert into about .125 worse in Rate
    2. Below a 680 Score, Conventional Rates really start to having a large costs.  a 640 conventional loan has a cost of 2.75 Discount points making the rate change by about .375 ie. go up from 3.75 to 4.125
    3. Gennerally speaking if the credit score is below 700, the FHA is going to be a much better rate.
  3. Closing Costs – These are basically the same for both loans
  4. Mortgage Insurance or PMI – This is another place where Credit Score really makes a difference.
    1. FHA monthly mortgage insurance is always .85% at 3.5% down with an up front Mortgage insurance factor of 1.75% rolled into the loan amount
    2. Conventional mortgage insurance also varies greatly based on credit score and down payment with 5% down, there is a factor of 1.08% at a score of 640 and a factor of .51%
    3. FHA mortgage insurance never drops off the loan, Conventional can drop off when the loan is paid down to 20% of the purchase price or appraised value after 2 years.
  5. Loan Term Net Worth – We do a 15 year net worth calculation for every client that we work with.  Generally, the program with the lowest payment and lowest APR is going to have the best long term net worth.

What does all this mean Dan?

Bottom Line:  It is best to take into account all factors of your Credit Profile with a qualified Mortgage Professional to determine if FHA or Conventional is better for your situation.  But, as a general rule of thumb, Credit scores between 620 and 700 are going to be better off utilizing the FHA loan for their financing.

Dan McKenzie
Managing Partner, Options Mortgage Services