An FHA loan is offered by federally qualified lenders and is backed by The Federal Housing Administration (FHA). Contrary to many beliefs FHA is not a bank or lender but simply put insurance offered by the government for coverage against loss in the event a borrower defaults on the loan. Hence, reducing risk to lenders insuring that they will be able to recoup the full amount of the loan if a buyer is unable to pay. The buyer pays for this insurance in two forms:

Upfront Insurance Premium an amount equal to 1% of the loan amount, this premium can be financed if the borrower does not have enough funds available.

Monthly Mortgage Insurance (MI) this is an annual insurance premium paid on monthly basis for a minimum of 5 years. The funds collected through the insurance are allotted into the FHA reserve pool to cover for future defaults and claims. The MI premium is scheduled to increase starting April 18th, 2011. However, this does not necessarily mean that the loan must close or fund by this date, as long as a buyer starts the process and is assigned an FHA case number prior to April 18th, 2011 he/she will be eligible and able to grandfather in the current rates.

FHA is an excellent product for borrowers who do not have the cash reserves for a larger down payment unlike conventional financing which typically requires up to 20% in down payment. Contrary to many recent rumors FHA still requires only 3.5% of the purchase price in down payment that can either come from the borrowers own funds, or be fully gifted by family members, employer, government or non-profit organizations. The seller CANNOT assist with the down payment funds. However is allowed to contribute up 6% of the purchase price to offset buyers closing costs.

Additionally, FHA does not have any income restrictions and will allow a non-occupying co-borrower to co-sign for qualification purposes. Currently 1-4 family dwellings and condominiums qualify for FHA financing. In RI the maximum loan amount for an FHA loan is $417,000. The credit score requirements vary but typically lenders require minimum of 620 FICO scores. FHA also offers programs that can help finance home repairs and improvements such as 203(k) construction loan.

Courtesy of: Sean Fleming and Shamila Ahmed