Are FHA Loans Easy or Hard to Qualify for?

Reader question: “I have heard that FHA home loans are fairly easy to qualify for. Or at least that they are easier than regular mortgages. Is this still true? I’m wondering if it applies anymore, because I’ve read a lot about FHA rule changes and stiffer requirements. Does that mean they are hard to get these days, or harder than in the past? Can you shed some light on this?”

Easier qualification has long been touted as one of the key benefits of the Federal Housing Administration’s mortgage insurance program. There are countless articles online that claim FHA loans are easy to qualify for, when compared to conventional financing. But that’s not entirely accurate.

To be honest, I don’t know if I would call FHA an “easy” loan to get. At least, not anymore. There have been many changes to this program over the last couple of years, and most of those changes have made it harder to qualify for an FHA loan — not easier. For instance, one change requires a more rigorous underwriting process for borrowers with credit scores below 620 and debt-to-income ratios above 43%.

These government-backed loans have also gotten more expensive over the last couple of years, as a result of higher mortgage insurance fees and a longer mandatory coverage period. So where does the easy reputation come from? Let’s take a closer look…

HUD Guidelines Make FHA Loans Seem Easy

The FHA loan program is managed by the Federal Housing Administration, which is part of the Department of Housing and Urban Development (HUD). If you look at the official requirements on the HUD website, you might get the sense that FHA loans are somewhat easy to qualify for — or at least not as hard as conventional mortgages that are not insured by the government.

For instance, the HUD website states that borrowers only need a credit score of 500 (or higher) to qualify for the program. Most Americans fall within this scoring range. But recent trends and statistics suggest that mortgage lenders are looking for much higher credit scores than those required by HUD.

According to an analysis conducted by the Urban Institute, most lenders today want to see a score of 640 or higher for an FHA approval. This is known as an “overlay” in industry jargon. It’s a situation where the bank or mortgage company imposes its own stricter guidelines on top of those set forth by HUD. These overlays make it hard for some borrowers to get approved.

Getting back to the question at hand. Are FHA loans easy to qualify for, compared to conventional financing? Much of it depends on the lender you choose, and your qualifications as a borrower. HUD’s minimum requirements seem pretty lax on paper. But lenders typically impose stricter requirements. So you might have to shop around and get quotes from different companies, especially if you are marginally qualified (below-average credit score, high debt level, etc.).

Lender Uncertainty Leads to Stricter Lending Practices

So, why do some lenders set higher standards than HUD? One reason is that they are afraid of being penalized down the road for the manner in which they originate their loans.

There is a lot of uncertainty regarding FHA guidelines and requirements for borrowers. As a result, some mortgage originators are nervous about making these loans in the first place. So they impose their own stricter criteria as an added “layer” of protection, which in turn makes it hard for some borrowers to qualify for the program. In short, fear or uncertainty toward government regulations tends to constrict credit availability.

According to Jaret Seiberg, an analyst with Guggenheim Securities: “[Mortgage] credit can’t be widely available if lenders have to worry that each loan could result in litigation that wipes out years of profits.”

HUD is trying to reduce such concerns (and, by extension, extend FHA financing to a broader base of borrowers) by clarifying their rules and guidelines. They are currently in the process of revising and simplifying certain manuals and handbooks used by mortgage lenders. It remains to be seen whether or not this will have an effect on lending practices, and to what extent. But their efforts could make it easier to get an FHA loan in future. Time will tell.

Still Not as Hard to Obtain as a Conventional Loan

FHA loans are insured by the federal government. This insurance protects the lender against financial losses that may result from borrower default (failure to repay). As a result of this insurance protection, lenders are generally more lenient when it comes to this program.

That doesn’t necessarily mean it’s easy to qualify. You still need to be a well-qualified borrower in all respects. You need a good credit score, steady income, manageable debt, and a down payment of at least 3.5%. But the insurance backing associated with this program does make it a bit easier when compared to conventional or “regular” financing.

This is what attracts a lot of people to FHA in the first place. It is somewhat easier to qualify for a government-insured mortgage loan, compared to one that is not backed by the government. This, combined with the low 3.5% down payment, is what lures many borrowers.

Here’s the bottom line. It’s not necessarily easy to qualify for an FHA loan. You have to be a fairly well-qualified borrower. But it might not be as hard as getting a conventional mortgage, due to the government insurance we talked about earlier. Whether or not you can qualify for the program largely depends on your credentials as a borrower. Your credit score, your debt-to-income ratio, and your income will all play a role.