Did you take an FHA loan to buy your home because you had a low credit score or little money to put down on the home? You aren’t alone. Many Americans have to use FHA financing in order to get the money to buy a home.
Luckily, you are able to refinance out of that FHA loan whenever you decide it’s time. The FHA doesn’t require you to have the loan for a specific period. The only thing you must certify when you take an FHA loan, is that you will live in the home as your primary residence. As long as you meet that requirement, you are free to pay the FHA loan off whenever you can.
The real question is, when will you be able to refinance out of an FHA loan?
The Requirements for a Conventional Loan
Let’s assume you are going to refinance into a conventional loan from the FHA loan. It may make financial sense, since conventional loans don’t require mortgage insurance for the life of the loan like FHA loans do.
Before you dive in, though, you should know what you’ll need to qualify for the conventional loan:
- High credit score – Your FHA loan probably allowed you to have a credit score as low as 580. That’s what the FHA allows. Conventional loans are different. Conventional lenders typically want a credit score of at least 680 or higher. If you did have a low credit score when you bought the home, has it increased?
- Low debt ratio – The FHA also has flexible debt ratio guidelines. They allow a front-end ratio of 31% and a back-end ratio of 41% – 43%. Conventional loans only allow a front-end (housing) ratio of 28% and a total debt ratio of 36%. Do you have your debts in line? Is your mortgage payment low enough that it doesn’t take up more than 28% of your gross monthly income?
- Adequate equity – Your loan-to-value ratio, or the amount of equity you have in your home, could play an important role too. With the FHA loan, you only need to put down 3.5% of the home’s purchase price to buy the home. The conventional loan requires at least 5% equity in the home, though. You’ll have to determine if you’ve either paid enough to get your balance down to 5% of the home’s value or see if the home appreciated enough to meet the equity requirement.
As you can see, FHA loans and conventional loans have different guidelines. But if you qualify for a conventionalloan, you’ll enjoy more relaxed mortgage insurance requirements.
Mortgage Insurance on ConventionalLoans
You probably know that you are stuck paying mortgage insurance for the life of the FHA loan, right? If you borrow more than 80% of the home’s value, you’ll be stuck paying Private Mortgage Insurance on your conventional loan too, but there’s a difference.
With the conventional loan, you don’t have to pay the insurance for the life of the loan. Your lender will make you pay it until you owe less than 80% of the home’s value. Once you hit that illustrious point, you can request cancelationof the insurance. You must do this in writing. If you can prove that you owe less than 80% of the home’s value, the lender must cancel the insurance.
If you overlook this step and you owe 78% or less of the home’s value, the lender must cancel your insurance automatically. It’s the law. This means you know you’ll only pay the mortgage insurance temporarily. As an added bonus, you won’t pay upfront mortgage insurance with a conventional loan – they don’t require it.
Other Loan Refinance Options
Of course, you don’t have just the conventional loan to rely on for your refinance. You may also use any other loan program in the market. The programs include:
- VA Loans – If you are a veteran and served enough time to get your VA benefits, you can borrow up to 100% of the home’s value with a VA loan. You won’t pay mortgage insurance with this loan and it does have flexibleguidelines. However, you will pay an upfront funding fee in order to pay for the VA service of your loan.
- Subprime Loans – You may also look to an alternative lender to refinance out of an FHA loan. Don’t panic when you see the name ‘subprime.’ It just means that you have an ‘alternate loan’ that isn’t a conventional or government-backed loan. These loans can have lucrative terms and help you get out of your FHA loan with no mortgage insurance.
As you can see, there are a variety of ways to refinance out of your FHA loan. The key is to find a loan that won’t charge you mortgage insurance; otherwise, you may be better off waiting until you owe less on the home. As always, you should make sure that the closing costs charged on the new loan are worth the refinance. If you won’t save enough money each month or the closing costs are extravagant, it may be best to wait to refinance.