If you’re thinking about buying a home, it’s important to know your credit score before diving too deeply into the home buying process. Lenders will use your credit score to help determine the type of home loan and interest rate they can offer you.
If you’re a home buyer with a brief credit history, a conventional loan can be hard to obtain. However, an FHA loan – which has more relaxed credit score requirements – opens the door to homeownership for many people who wouldn’t qualify for a conventional loan, which is any mortgage loan not backed by an agency of the federal government.
Let’s walk through FHA loan credit score requirements for 2023.
What Is An FHA Loan?
An FHA loan is a type of mortgage product insured by the Federal Housing Administration. That means the FHA will protect lenders in the event of a borrower default. In many cases, lenders are able to offer an FHA loan to borrowers who lack the credit score or down payment to be approved for a conventional loan, although it’s sometimes possible to have a lower down payment percentage on a conventional loan (3% minimum) than an FHA loan (3.5% minimum).
How Are FHA Credit Requirements Determined?
Before delving into the credit requirements for FHA loans, it’s beneficial to understand how FHA lenders determine your credit score.
First, it’s likely you have more than one credit score floating around. That’s because there’s more than one credit bureau and scoring model out there. Although your FICO® Score is a popular option, another common credit score is your VantageScore®.
If the lender finds three credit scores for one borrower, they’ll use the middle value when determining your loan eligibility. If the lender finds only two credit scores, they’ll use the lower of the two options. If there are multiple borrowers applying for the mortgage together, the lender will typically choose the lower middle score between the joint applicants.
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FHA Minimum Credit Score Requirements
Technically, you can get approved for an FHA loan with a median FICO® Score of as low as 500, but an FHA loan with a score that low has some serious drawbacks.
The first drawback is that you’ll need a down payment of at least 10%. Secondly, when qualifying with a score that low, it’s considered a subprime loan. In other words, even if you can get the loan, you won’t get the best terms and could end up with a high annual percentage rate (APR). Most lenders won’t approve the loan if your median score is below 580.
Finally, you must have some very low qualifying ratios. To qualify with a median FICO® Score of below 580, you’ll need to pay close attention to two ratios: your housing expense ratio and your overall debt-to-income ratio (DTI).
It’s important to note that each mortgage lender will have their own guidelines for FHA loan requirements.
Housing Expense Ratio
Your housing expense ratio is the percentage of your gross monthly income that’s used for housing expenses. It’s calculated as follows:
(Installment debt + Revolving debt payments) / Gross monthly income
If your FICO® Score is below 580, the amount being spent monthly on housing expenses can’t exceed 31% of your gross income. But if your score is above 580, your housing expense ratio can be as high as 40%, in some cases.
Debt-To-Income Ratio
Your debt-to-income ratio takes into account your debts, or fixed monthly expenses. It includes your mortgage, student loan payment, auto loan payment and other debt payments. DTI doesn’t include variable expenses like groceries, utilities and gas.
DTI is calculated with the following formula:
Monthly debt payments / Gross monthly income
With a median FICO® Score below 580, your DTI can’t go over 43% – 45% of your gross monthly income, depending on your situation and lender. Housing expenses and DTI have a major impact on how much house you can afford.
In addition to the restrictions described above, it’s important to note that very few lenders offer these subprime FHA loans, and they may have stricter requirements than those set by the FHA.
The Benefits Of A Higher Credit Score For FHA Loans
When applying for an FHA loan, a higher credit score comes with numerous benefits. We’ve outlined some of the major ones in the sections that follow.
More Lender Options
If you have a median FICO® Score of 580 or higher, the first benefit is that you’ll have more lenders competing for you to borrow from them. Options mean better loan terms, including a more competitive interest rate.
A Better Interest Rate
Beyond simple qualification, your median FICO® Score plays a major role – along with your down payment – in the interest rate you receive. The higher your score and the higher your down payment, the better interest rate you can expect.
A Lower Down Payment
If your score is 580 or above, you’ll only have to make a down payment of 3.5%. This could significantly open up your housing options. It’s worth noting that you’ll have a mortgage insurance premium (MIP) for the life of the loan if you make an initial down payment of less than 10%.
On the other hand, you’ll pay mortgage insurance for 11 years with a down payment of 10% or more. You may be able to get rid of mortgage insurance even sooner by choosing to refinance to a conventional loan once you reach 20% equity, as long as you qualify for a conventional loan.
Approval With A Higher DTI
If you have a median FICO® Score of 620 or better, a higher DTI is allowed than what might be allowed on many other loans. While there’s no hard maximum that applies to everyone, the DTI for borrowers with a higher credit score is based on your credit score range as well as the size of your down payment and other factors. The FHA won’t approve a DTI above 57%.
FHA Loans For Bad Credit Or No Credit History
If you’re applying for any kind of mortgage, including an FHA loan, it’s a good idea to have at least two or three accounts open and reporting on your credit – whether those are revolving accounts, like credit cards, or monthly loan payments on a personal loan. However, it’s possible to get an FHA loan with a bad or nonexistent traditional credit history.
As mentioned previously, some lenders will grant FHA loan approval to borrowers with a credit score as low as 500, but you’ll have to make a significant down payment and you’ll likely face a higher interest rate.
If you have no credit history, a lender can sometimes assess your ability to make mortgage payments by looking at any rent payments, utility bill payments or telephone service payments you’ve made. If you’ve been making on-time payments for at least a year, a lender can potentially issue you an FHA loan.
FHA Loan Credit Score FAQs
Let’s take a look at some of the most common questions borrowers have when they look at their credit score and FHA requirements.
What if I don’t meet the FHA’s credit requirements?
One of the first actions you can take if you aren’t eligible for an FHA loan is to raise your credit score and reduce your debt. If that isn’t an option or might take longer than anticipated, try putting down a larger down payment. You could also ask your lender if there are any compensating factors they’d be willing to take into consideration.
What are the FHA loan limits?
FHA mortgage loan limits vary by county and number of housing units. Depending on where you live or where you’re looking to buy a house, your mortgage lender can help you determine your maximum limit for the current year.
What documents do I need for an FHA loan?
If you’re applying for an FHA loan, you’ll need documentation. These documents include a state-issued identification, proof of a Social Security number and income documentation covering 2 years, which can include pay stubs, W-2 forms or tax returns. FHA lenders can provide you with a specific list of what you’ll need, and they can walk you through the process.
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The Bottom Line: Know The FHA Loan Credit Score Requirements
When considering credit score requirements for an FHA loan, it’s best to speak with your mortgage lender. They can guide you through the process and help you explore options that will fit your financial situation and needs.
Sarah Sharkey
Sarah Sharkey is a personal finance writer who enjoys diving into the details to help readers make savvy financial decisions. She’s covered mortgages, money management, insurance, budgeting and more. She lives in Florida with her husband and dog. When she's not writing, she's outside exploring the coast. You can connect with her on LinkedIn.
