July 25, 2017

How Many Years Will I Pay FHA Mortgage Insurance? The Answer May Surprise You

FHASince being created by Congress in 1934 the Federal Housing Administration (FHA) has insured over 34 million mortgages on single family homes.  The low down payment requirement and relaxed credit standards of the FHA have allowed millions of people to achieve the dream of home ownership.

While the advantages of an FHA mortgage are compelling the mandatory mortgage insurance on an FHA loan is a cost that many borrowers may not fully understand.  Due to the higher risk profiles of FHA borrowers mortgage insurance is necessary to protect lenders against the risk of loss due to default.  In addition, mortgage insurance premiums collected are used for operational purposes and allow the FHA to be self funded.

Mortgage insurance is essential for the continued success of the FHA mortgage program but it represents an ongoing long term cost for borrowers.  During the complex process of buying a home and applying for financing many people may not fully appreciate how much the insurance will cost over the life of the loan.

The cost of FHA mortgage insurance consists of a one time upfront premium payment as well as an annual premium charged on a monthly basis.

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The upfront mortgage insurance premium (UFMIP) is 1.75% of the base loan amount.  For example, on a $200,000 mortgage the borrower is charged $3,500 which is conveniently financed into the mortgage loan.

The annual mortgage insurance premium (MIP) for purchase mortgages under $625,500 is 0.8%  with a 5% down payment and .85% if the down payment is less than 5%.  For example, on a $200,000 FHA loan with a minimum down payment of 3.5% the annual MIP would be $1,700 or $141.67 per month.

What shocks many FHA borrowers is when they find out that if they took out an FHA loan with less than a 10% down payment the annual MIP is charged for the entire life of the loan.  Paying mortgage insurance for 30 years can wind up costing the borrower many thousands of dollars and the only way to get rid of the annual MIP is by paying the loan off or refinancing to a conforming mortgage.

FHA financing begins to look expensive when compared to a conventional loan. The lender is required to terminate the mortgage insurance on a conventional mortgage once the loan is paid down to 78% of the original amount.  Whether or not it makes sense to buy a home using FHA financing or to wait until you have a bigger down payment is a tough decision that potential buyers should discuss with a financial advisor.

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