Borrowers applying to the Department of Housing and Urban Development for a Federal Housing Administration home loan are lumped into tiers according to their credit scores. The FHA has undergone several transitions as a result of the housing market crash witnessed in the mid-to-late 2000s. Making funds available to home buyers is the goal for these government-backed loans, but the borrowers must show their creditworthiness in return. The lower your credit score, the more equity, or down payment, the FHA requires.
The qualifying line for an FHA-backed loan, with a 3.5 percent down payment, is a Fair Isaac Company -- FICO -- score of 580. Borrowers at or just above the 580 score must also have debt-to-income levels that are below 43 percent. Lower scores aren’t eliminated from the possibility of borrowing, but those applicants are subjected to more intense scrutiny and must be underwritten manually, meaning closer attention is paid to income management. Higher down payment requirements may also be requested. FHA guidelines are often overwritten by lenders, who establish their own basic requirements for lending. Many lenders require a minimum credit score of 600 to open a file on a potential mortgage.
It’s time to do some math. Calculate your yearly salary and divide by 12 to reach a gross monthly income figure. Start subtracting all your bills that are paid monthly, including rent, utilities, car and student loan payments, alimony and other recurring, monthly debt. If your yearly income is $48,000, your monthly gross income is $4,000. Subtract all your debts, in this instance use $1,700 as your monthly indebtedness number. Divide $1,700 by $4,000, and your Debt-to-Income ratio is 42.5 percent. This puts you slightly under the maximum DTI ratio considered acceptable to an underwriter of an FHA loan.
On the Edge of Qualifying
Given a 42.5 percent DTI figure, strengthening your credit profile is suggested if you wish to take advantage of the low down payment availability of an FHA loan. Analyze your monthly expenses and prune all extraneous bills. Live more modestly. Minimize your credit card usage and pay down your balances, as outstanding credit amounts are evaluated. Limit your credit cards to a minimum of three: one for general credit, one for gas and one for a department store. This diversifies your credit profile and is considered a positive by underwriters.
Don’t quit your job. A work history of consistent employment for a minimum of two years reflects on your ability to secure an FHA loan. If you’ve changed jobs, the newer position should be within the same discipline and preferably at a higher pay rate than the previous. Self-employed applicants must submit income tax records verifying yearly income. A credit score of 620, along with a modest DTI and consistent employment, should qualify you for a 31/2 percent down payment FHA loan.
- Photodisc/Photodisc/Getty Images