FHA Loan versus 5% Down Conventional Loan

[Charles Han]

Hello everyone,

Fairly new member (and overall investor) here looking for help. Thank you beforehand for any advice!

I have the opportunity to get into a duplex with either an FHA loan at 3.5% down or with a conventional loan at 5% down with the Freddiemac Homepossible Program. I understand that the benefits of conventional would be that the mortgage insurance would drop off at 20% equity so I wouldn't need to refi in order to achieve this.

If I went with an FHA loan, I would live there a year while performing rehab and then hopefully refinance and pull equity out once my owner occupancy was satisfied to reinvest into another property. I'd also need to refi out of the FHA because I wouldn't be allowed to have two of these loans going at once.

With this scenario, I am having a lot of trouble seeing the benefit of a 5% conventional loan if I planned on refinancing out of the FHA loan in a year anyways. Both plans would have mortgage insurance for the length of that year (as I would need 20% equity before removing it on the conventional) and with FHA, I would have more cash remaining to spend on rehab costs versus 5% down.

I had my lender run both scenarios and the FHA scenario is cheaper by about $150.00 a month as well. So this means it'd be a cheaper monthly payment and more cash on hand with FHA.

I have read a few forum posts and it seems most people recommend 5% conventional over an FHA at 3.5% down. Could anyone shed some light on what I am missing in terms of benefits? When I look at the numbers in front of me, I am having a hard time seeing why and want to make sure I am not missing anything as this Homepossible program is no longer available to me after I purchase my first property.

Thanks again for any clarification. Really appreciate the feedback!

[Andrew Postell]

@Charles Han an FHA loan is more forgiving with your credit score. The PMI with an FHA loan is a flat rate no matter what your credit score is. A conventional loan PMI is a sliding scale. So the higher your score the better the PMI. So if your score was a lower score then the FHA loan would carry lower PMI thus carry a potentially lower payment. FHA loans also have higher closing costs. Currently they carry a 1.75% charge to their loans. You are allowed to wrap this charge into the loan amount but it is certainly a cost of securing an FHA loan.

Usually lenders make a little more money with FHA loans. Make sure you are comparing the full payments with both loan types. Meaning the payments with escrows and PMI. That way you can see if the totally payment for both loans. Hope this helps. Good luck!