There are plenty of options for people that do not qualify for standard conventional loans to obtain a mortgage today, even though the days of no doc and stated income loans are behind us. The HomeReady™ and FHA loans are two of the best options for people with less than perfect credit or unique income situations. Both loans require a very low down payment and flexible qualification guidelines. Understanding the differences between the programs can help you make the right financial choice for your needs.
What is the HomeReady™ Loan?
The HomeReady™ loan is a Fannie Mae program that offers borrowers with low income to purchase a home with the help of the income of extended family members. Borrowers simply need to put 3 percent down on the home, of which none of these funds needs to be their own. The loan program was designed to help borrowers that purchase homes within low-income or high-minority areas to purchase a home as the people living in these areas are often limited in income, which brings their debt ratio too high to qualify for a standard loan, despite their good credit. The HomeReady™ loan enables these borrowers to use non-borrower income from people that live with them as a compensating factor to make up for a debt ratio between 45 and 50 percent. If your debt ratio is above 50 percent on your own, you will not qualify for this program.
What is an FHA Loan?
The FHA loan is backed by the government, which means the lender has a guarantee that the FHA will pay them should the lender default. The down payment required for the FHA loan is just 3.5% and the qualification guidelines are very flexible. They typically have the lowest credit score requirements out of any of the Qualified Mortgages available in the industry. You do not have to be a first-time homebuyer or have any unique circumstances in order to qualify for the FHA loan.
What Attributes are the Same Between the Two Loans?
Both loan programs have some pretty similar requirements including:
- Low down payment requirements – There is only a .5% difference between the FHA required down payment and the HomeReady™ required down payment
- Low and/or “bad” credit is often accepted with both of these programs as they have flexible credit guidelines. FHA loans can accept credit scores as low as 580 (even 500 in some cases). HomeReady™ loans require a 620 minimum credit score.
- Maximum loan amounts are in place for each program – The FHA limits are categorized by county and HomeReady™ loans are maximized by the conforming loan limits.
- Mortgage insurance is required – Both loans require mortgage insurance premiums in order to obtain the loan in order to protect the lender if you were to default. HomeReady™ mortgage insurance is called PMI and FHA mortgage insurance is called MIP.
What Attributes are Different Between the Two Loans?
Just as there are similarities between the FHA and HomeReady™ loan, there are also many differences. Some of the major ones are:
- Income verification – Income for an FHA loan can only come from the borrower or co-borrower; if you are not on the loan, you cannot use your income to help qualify for the loan. Income for the HomeReady™ loan, however, can come from a variety of sources including non-borrowers that reside with you, renters, and boarders.
- Mortgage insurance – FHA loans require you to pay upfront mortgage insurance at the closing, plus the annual mortgage insurance which you pay monthly. HomeReady™ loans strictly have standard monthly PMI payments.
- The HomeReady™ loan requires a higher minimum credit score in order to qualify. FHA loans have a much larger amount of flexibility in regards to credit.
- Amount of income – FHA loans do not decline you for a loan for making too much money, but the HomeReady™ loan does. If you purchase a home outside of a low-income census tract, you cannot make more than 100% of the AMI for the area. If you purchase in a low-income area, however, there are no income maximums.
- Interest rates – FHA rates are among the lowest rates amongst any program available in the mortgage industry, which means they are typically lower than the HomeReady™ rates.
- Down payment requirements – The basic down payment requirements for the HomeReady™ program is 3% of the purchase price, but if your credit score is lower than 680, a higher down payment may be required. If your credit score is lower than 580 on an FHA loan, you may have to put down 10% of the purchase price.
Deciding between the FHA and HomeReady™ loan is a personal choice. They both have low down payments and flexible guidelines, but from there, the differences begin. If you have low income, your best bet is to find a home within the HomeReady™ unlimited income areas so that you can use other household income to compensate for your high debt ratio. If you have other unique circumstances, such as low credit because of a bankruptcy or foreclosure that occurred just over 12 months ago, but you have pulled yourself back together and rectified the situation, the FHA loan might be a better choice because the credit requirements are lower and the FHA Back to Work Program enables you to purchase a home just 12 months after a negative credit event.
The best way to determine the loan that is right for you is to sit down with a lender and go over your choices. If you qualify for both programs, analyze the interest rate and insurance premiums you will pay and how the differences will add up over the life of the loan. If you are purchasing a home for the short-term, higher interest rates will not matter as much to you, but if you are in the home for the long-term, pay excessive interest over the course of 30 years can really add up. Consider all of the factors when choosing between the two loans and determine which one will leave you financially secure not only today but down the road as well.