Homeownership is slipping out of reach for many Americans.
More than 65% of households in 39 states and Washington, D.C., cannot afford the median-priced new home, a gap driven by increasing prices, high mortgage costs, and stagnant wages, according to the National Association of Home Builders (NAHB).
With budgets stretched thin, the loan type you select has a direct impact on what you pay and how you qualify. Most buyers compare two options: an FHA loan or a conventional loan.
What Is an FHA Loan?
An FHA loan is a mortgage loan that’s insured via the Federal Housing Administration, an agency of the U.S. federal government.
This mortgage was created to increase homeownership accessibility for those with lower credit or less money for a down payment.
What Is a Conventional Loan?
A conventional mortgage is a home loan issued by private financial institutions that’s not backed by any government agency.
It has more stringent credit score and down payment standards, so it’s better suited for buyers with a solid credit history and stable finances.
Conforming Loans
Conforming loans are under the limit set by the Federal Housing Finance Agency (FHFA) and conform to the guidelines set by Fannie Mae and Freddie Mac.
Lenders are free to sell these loans on the secondary market, which tends to keep interest rates competitive.
Non-Conforming (Jumbo) Loans
Jumbo loans are those that exceed the borrowing limits for conforming loans.
Individual lenders use their own criteria for such loans, and they typically require better financials and higher credit scores to get approved.
Read More: Piggyback Loan: Requirements, Pros, Cons, & How to Get
FHA vs Conventional Loan Requirements
| FHA Loan | Conventional Loan | |
|---|---|---|
| Credit Score | 500 and up | 620 and up |
| Down Payment | 3.5% (580+ credit score); 10% (500–579) | 3% to 5% |
| Debt-to-Income Ratio | Up to 31% for housing costs; 43% total | Up to 45% |
| Loan Limits | $524,225 in most areas; $1,209,750 in high-cost areas | Conforming: $806,500; High-cost: $1,209,750; Jumbo: varies by lender |
| Interest Rates | Tends to run lower | Tends to run higher |
| Mortgage Insurance | Required on all loans | Required only when the down payment falls below 20% |
Pros and Cons of FHA Loans
FHA loans have both advantages and disadvantages depending on your financial situation.
Pros
- FHA loans have a minimum credit score of 500 and permit a higher debt-to-income ratio than conventional loans.
- The required minimum down payment can be gifted by a family member, employer, or charitable donations.
- Borrowers can also roll closing costs into the amount of their loan, lowering initial out-of-pocket expenses.
Cons
- FHA loan limits set a ceiling on how much you can borrow, which can be limiting in higher-cost markets.
- The loan is for a primary residence only, not investment properties, fixer-uppers, or some foreclosures.
- Mortgage insurance premiums last the life of the loan with minimum down payments, and drop only after 11 years for a 10% or more down payment.
Pros and Cons of Conventional Loans
Conventional loans also have their own set of advantages and disadvantages.
Pros
- Conventional loans require as little as 3% down, which can come from savings, gifts, or grants.
- Private mortgage insurance ends when you develop enough home equity to make it manageable.
- Conventional home loans can be used to buy primary residences, second homes, and investment properties at fixed and adjustable rates.
Cons
- You will need at least a 620 credit score to be approved for a loan.
- Interest rates on conventional loans can be a bit higher than government-backed mortgages.
- Prior bankruptcy has a two-to-four-year waiting period, while prior foreclosure has three to seven years.
Should You Get an FHA or Conventional Loan?
An FHA loan is worth considering when:
- First-time buyers with a short credit history or limited savings.
- Cash reserves are tight, and the 3.5% minimum down payment keeps homeownership within reach.
- Lower credit scores that fall below conventional standards still qualify under the Federal Housing Administration’s lenient criteria.
A conventional mortgage is the better option when:
- A strong credit history qualifies you for more favorable interest rates and loan terms.
- Building sufficient home equity lets you cancel private mortgage insurance.
- A down payment amount of 10% to 15% or more reduces the overall cost.
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Frequently Asked Questions
Which loan is good, FHA or conventional?
Neither loan is universally better. The one that benefits you most depends on your credit score, down payment, and financial goals.
Do sellers prefer FHA or conventional?
Many sellers prefer conventional loans because FHA loans require an FHA appraisal. Sellers must address any issues flagged during the appraisal before closing, and some sellers would rather skip that added step and uncertainty.
Are FHA loans more expensive than conventional?
It varies based on your total loan amount and down payment amount. Running both through a mortgage calculator gives you a more accurate estimate of your monthly mortgage insurance premium and overall mortgage payments.
Conclusion
An informed decision on conventional and FHA loans can make homeownership more affordable from the start. The more you know about each loan type, the better positioned you are to negotiate and save.
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