An FHA loan has a very low down payment requirement of 3%.  They expect fixed rate loans to have rates based on the current market and the borrower’s credit rating – as would any commercial lender.  The fact that your loan will be FHA approved and insured may result in a slight reduction in interest rates.

FHA loans also have insurance costs to the lender, as do all mortgages with a down payment of less than 20%.  In the case of the FHA, however, those insurance payments are made to the agency instead of a commercial insurance broker.  On an FHA loan the borrower will be charged an insurance premium of 1.5% of the mortgage amount and the yearly payments thereafter will be half a percent of the mortgage value.

FHA also allows the financing of closing costs.  Your mortgage loan will include the closing costs and will be folded into the monthly payments and amortized over thirty years.  They also have limits on some of those closing costs: the fee for credit reports must be the actual cost; so too with legal fees; inspection fees are limited to $200 and the loan origination fee can be a maximum of 1% of the loan amount.

For adjustable rate mortgages, the only index acceptable to the FHA is the one year Treasury bill interest rate.  Annual increases are capped at 1% and the maximum interest rate can be no more than 5% of the original interest rate.

There are also “hybrid” mortgages that have initial low interest periods of 3; 5; 7; or 10 years before the rated adjust.  In those situations, the loan with the 3 year initial period has the same restrictions as the one year ARM described above.  In the case of the 5,7 and 10 year ARMs the yearly maximum increase is 2% and the interest rate cap is 6% over the original rate.

FHA LOAN LIMITS
The FHA was formed in 1934 to help people mired in the Depression era economics buy a home.  Since those days, the Agency has always focused its efforts on assisting Americans with modest incomes. 

Their method of operation is to purchase loans that meet FHA guidelines from commercial lenders and to insure them against default. In keeping with the Agency goals there has always been a limit on the size of the loan the FHA will insure – these loans are called conventional or conforming loans.

The FHA loan cap is adjusted annually varies from region to region.  For both 2006 and 2007, the largest loan that was and is eligible for FHA participation is $362,790, and that is for the areas of the country with the costliest homes.  For information on FHA loan limits in your area, go here and choose your state. 

The loan cap figure is derived from the median cost of a home in any given metropolitan statistical area (MSA).  Thus while the biggest FHA loan you can get for a single family home in the San Francisco area is $362,790; in Springfield Missouri the largest loan available under FHA’s rules is $200,160.

Loans that exceed the FHA caps are called ‘jumbo loans’.  Any mortgages that are for higher sums than the FHA caps permit must be acquired solely through standard banking sources working without FHA partnership.  For that reason, the interest rates on jumbo loans are generally higher than for conforming loans.

Conventional loans are also available without FHA involvement.  By comparison, however, the FHA loan is likely going to have a lower interest rate than a conventional loan without FHA involvement.  Credit requirements will be less cut-and-dried; the FHA loan officer is going to listen to your explanations and take them into account.

If your credit problems have been recent and you are a candidate for a “subprime” loan, the FHA loan is still a better choice.  It will not have risky adjustable rates and will not carry a prepayment penalty as most commercial subprime loans do.  If your credit improves and you want to FHA refinance your loan in a few years to obtain a lower interest rate, you won’t be paying thousands of dollars in penalties to do so – if you have an FHA loan.