FHA Loan Payments: What 3.5% Down Really Costs

FHA loans get recommended to first-time buyers on the strength of one number, the 3.5 percent down payment. That part is true. What gets skipped is that the insurance making the low deposit possible is charged twice, and on a small deposit it never goes away.

A $300,000 purchase, worked all the way through

Start with 3.5 percent of $300,000, which is $10,500 down. The base loan is $289,500. The upfront mortgage insurance premium of 1.75 percent adds $5,066, and almost everyone finances that rather than paying cash, so the loan actually written is $294,566.

At 6.5 percent over 30 years, that balance costs about $1,862 a month in principal and interest. Then the annual premium, currently 0.55 percent a year for most 30-year loans at the minimum down payment, adds $1,620 a year or $135 a month. So $1,997 before property taxes and homeowners insurance. At a 1.1 percent tax rate the county wants $3,300 a year, or $275 a month, and a $1,500 policy adds $125, which takes the real figure to about $2,397.

The comparison worth running is against a conventional loan at 5 percent down: $15,000 up front on the same house, a $285,000 loan, no upfront premium, and private mortgage insurance that cancels at 20 percent equity. The FHA route needs $4,500 less at closing and costs more over time.

Why FHA insurance can last the whole loan

This is the detail that changes the maths. Put down less than 10 percent and the annual premium stays for the full 30-year term. Put down 10 percent or more and it drops off after 11 years. Private mortgage insurance on a conventional loan must instead be cancelled on request at 80 percent loan-to-value, and falls away automatically at 78 percent.

Over 30 years, $135 a month is $48,600. That is the real price of the smaller deposit, and it is why plenty of buyers who qualify for both still take the conventional loan. Working out which side of the line you sit on starts with an honest affordability figure rather than a maximum approval amount.

When FHA is still the better answer

Credit score is the usual deciding factor. FHA accepts 580 for the 3.5 percent option and will go down to 500 with 10 percent down. Conventional lenders typically want 620 and price the loan sharply against anything under about 700, so a borrower sitting at 600 may find the FHA rate lower even after the insurance is counted.

Debt-to-income limits are looser too. FHA underwriting regularly approves ratios above 43 percent where there are compensating factors such as cash reserves or a long employment record. If your deposit is the constraint rather than your credit file, read the down payment strategies for first-time buyers before committing to a product.

How to use the FHA loan calculator

Enter the purchase price, your down payment as a percentage or a dollar amount, the interest rate you have been quoted, and the term. The calculator applies the 1.75 percent upfront premium automatically and adds it to the loan, then applies the annual premium at the correct rate for your term and loan-to-value.

Find the rate on your loan estimate rather than a lender advert, and take property tax from the county assessor listing for the actual address. Both vary enough to move the monthly figure by hundreds of dollars.

Common questions

Can I get rid of FHA mortgage insurance? Only by refinancing into a conventional loan, which needs 20 percent equity to avoid new insurance. Reaching 20 percent from a 3.5 percent start is mostly not down to your payments. On the $300,000 example above, five years of scheduled payments clears only about $18,800 of the balance, so the rest of the gap has to be closed by the house gaining value. Once it is closed, refinancing removes the premium permanently.

Is the upfront premium refundable? Partly, and only for a while. Refinance into another FHA loan within three years and a portion of the original upfront premium is credited back on a sliding scale. Refinance to a conventional loan and you get nothing back.

Are there limits on how much I can borrow? Yes. FHA sets a maximum loan amount per county, updated each year, with much higher ceilings in expensive metro areas than in rural ones. Check the limit for the county you are buying in before you shortlist houses.

Can the down payment be a gift? It can. FHA allows the entire 3.5 percent to come from a family member, an employer or another approved source, provided it is documented with a gift letter and the funds are traceable. Conventional loans allow gifts too but are stricter about how long the money must sit in your account.