Government-backed loans: FHA, VA, and USDA

Conventional loans carry no government backing. Three federal programs step in to reduce the lender's risk for borrowers who might not qualify otherwise. Each works a little differently, and the exam likes to test insured versus guaranteed.

FHA-insured loans

The Federal Housing Administration (FHA) is part of the U.S. Department of Housing and Urban Development (HUD). FHA does not make the loan. A private, FHA-approved lender makes it, and FHA insures the lender against loss if the borrower defaults. That insurance is what lets lenders offer easier terms.

According to HUD:

• the down payment can be as low as 3.5% of the purchase price;
• FHA loans are available on 1 to 4 unit properties;
• benefits include easier credit qualifying and low closing costs.

Mortgage insurance premium (MIP)

FHA's insurance is paid for by the borrower through a mortgage insurance premium. The CFPB describes two parts:

• an upfront premium (UFMIP), a one-time charge at the start of the loan; and
• an annual premium, paid in monthly installments with the mortgage payment.

The rates are set by HUD and change over time, so learn the structure rather than a percentage. Note the vocabulary: conventional loans have PMI; FHA loans have MIP. The Homeowners Protection Act rules for cancelling PMI do not apply to FHA loans.

VA-guaranteed loans

With a VA-backed loan, the Department of Veterans Affairs guarantees (stands behind) a portion of a loan from a private lender. Key features from VA:

• No down payment as long as the sales price is not higher than the appraised value. VA reports that nearly 90% of VA-backed loans are made with no down payment.
• No PMI or MIP.
• The borrower must intend to live in the home.
• The benefit can be used again after the borrower sells or refinances a home bought with a VA loan.

Eligibility and the COE

Eligibility depends on service history: length of service, when the person served, and the character of discharge. Veterans, active-duty service members, National Guard and Reserve members, and some surviving spouses can qualify. A Certificate of Eligibility (COE) confirms for the lender that the borrower qualifies. It can be requested online, by mail, or often through the lender.

Funding fee

The VA funding fee is a one-time charge that offsets the program's cost to taxpayers, since VA loans have no down payment or monthly mortgage insurance. It can be paid at closing or financed into the loan. It varies with the loan type and, for purchase loans, with first or later use and the size of any down payment. Veterans receiving VA compensation for a service-connected disability generally do not pay it.

USDA guaranteed loans

USDA Rural Development's Single Family Housing Guaranteed Loan Program helps low- and moderate-income households buy in eligible rural areas. Approved private lenders make the loans, and USDA gives the lender a 90% loan note guarantee, which supports 100% financing (no money down). Household income cannot exceed 115% of the area median, and the buyer must occupy the home as a primary residence.