What is a Federal Housing Administration (FHA) Loan?

What is an FHA loan? The Federal Housing Administration loan allows you to purchase a home without a tremendous amount of money down. The FHA is not in the business of lending money -- what the institution does is insure lenders against delinquent buyer defaults. The credit terms and conditions of FHA guaranteed loans are slightly more lenient than the terms are for standard conventional loans.

You are allotted 29 percent of your total monthly income to pay for mortgage costs and as much as 41 percent to pay for mortgage costs plus other long-term debt to creditors. Compare these rates to the rates you'll find for conventional loans -- approximately 26 percent is allowed to pay for mortgage costs and 33 percent is allowed to pay for your total debt plus mortgage costs.

An FHA loan may be able to help you afford a larger home and a better neighborhood, but its powers are not unlimited. You need to have a reasonable credit history and score. You should have a steady income stream and the paperwork to verify your employment. You also need to put down at least 3 percent of your mortgage and to manage other closing costs, such as attorney's fees and insurance.

Moreover, if your loan to value ratio is greater than 80 percent, you're going to have to pay a fee to what's known as a private mortgage insurance entity. On top of that, you'll have to pay for a fee to protect the pool of money that the Federal Housing Administration collects.

You can tack on points to your mortgage to reduce your rate. If you don't have that much money to spend on the mortgage in the first place, anything you can do to get your rate down should help to balance out your payment portfolio in the long run.

Bear in mind that there are stipulations by which you must abide to continue to qualify for your FHA loan. You should investigate potential tax deductions when calculating your long-term payment capabilities. You may wish to explore Veterans Administration loans as an alternative to standard FHA financing. You might also calculate FHA loan costs against conventional loan financing before you start shopping lenders.