Can You Refinance An FHA Loan And When Should You Consider It?
We often talk about the purchase of a home being the single biggest financial transaction most people make throughout the course of their lives. Given that, your home is a correspondingly large piece of your financial portfolio. The main way you access the money tied up in your house is by refinancing.
This article will go over the options you have to refinance a Federal Housing Administration (FHA) loan and how to evaluate whether the time is right for you.
Can You Refinance An FHA Loan?
Yes, you can. In order to refinance an FHA loan, you have to qualify for either the FHA loan or another loan type. We’ll go over some of what’s necessary to qualify for individual types of home loans a bit later on, but for now, let’s speak in general terms.
Your credit score and history affect whether you can qualify. In addition to the score itself, your payment history and previous negative marks, like bankruptcy or a forbearance, affect who can qualify and when. These latter items are a little more complicated and we would recommend speaking with a Home Loan Expert to help you navigate through the process.
In addition, if you’re looking to do an FHA Streamline, going from one FHA loan to another for the purpose of changing your term, lowering your rate or both, there’s often a waiting period.
Finally, there’s a minimum equity amount that’s required in order to refinance in many cases. If this is the case, the amount required typically depends on the type and purpose of the loan.
FHA Loan To Conventional Loan
This is one of the more common refinance options when it comes to FHA loans for those trying to avoid mortgage insurance altogether. Once you reach 20% equity in your home, there is no private mortgage insurance (PMI), which can serve as a big incentive on its own to refinance.
Additionally, conventional mortgages may often come with better rates, depending on your credit score and the amount of equity you have, among other things.
In order to qualify to go from an FHA loan to a conventional loan, your debt-to-income ratio (DTI) should be around 43% or lower to give yourself the best chance of approval. Also, you need a median 620 credit score or better. The credit requirements could be a downside for some because the FHA is a bit more lenient.
FHA Cash-Out Refinance
You can do a cash-out refinance through the FHA, although it might not be your best alternative from a financial point of view. That’s because you need to have 20% home equity after you take cash out of your home.
Doing a cash-out refinance with a conventional loan is generally the better option because you can avoid mortgage insurance premium (MIP) payments now and in the future.
However, if you’ve encountered a large unexpected expense and you’re still working on improving your credit score, a new FHA loan may be your best choice.
To qualify for an FHA Cash-Out Refinance with Rocket Mortgage®, you generally need at least a median 620 credit score. The exception is if you're a current client of theirs who is looking to pay off debt at closing. In that case, the qualifying credit score is 580. Additionally, you must leave at least 20% equity in the home after you take cash out.
The primary advantage here is that you may be able to qualify for an FHA loan with a higher DTI – in some cases as high as 67% – than you could with a conventional mortgage, depending on a variety of other factors.
FHA Streamline Refinance
An FHA Streamline is used when going from one FHA loan to another. This is only used for rate/term refinances, meaning you can lower your rate or change your term, but you can’t take cash out. However, for those who qualify, there are a couple of huge benefits:
- Lower MIP: When you do an FHA Streamline, upfront MIP is only 0.01% of the loan amount and the MIP decreases to 0.55% regardless of loan amount or existing equity. This could represent a major savings on a monthly basis.
- Less documentation: In some cases, less documentation is involved because you’ve been paying on your loan already. Verifying your income and assets may be easier.
- Appraisal Often Not Necessary: You might not need an appraisal with an FHA Streamline, meaning you might get to the closing table faster.
There’s no required minimum equity amount with an FHA Streamline. In order to qualify, Rocket Mortgage-serviced clients need a minimum FICO® Score of 580. For clients not currently with Rocket Mortgage, the requirement is a 620 median credit score.
FHA ARM To FHA Fixed-Rate Mortgage
The FHA also offers adjustable rate mortgages (ARMs). If you took out an FHA ARM, and your introductory period has or is about to expire, you might want to switch to a fixed-rate mortgage. You’ll enjoy the piece of mind that comes with not having to worry that your monthly mortgage payment will rise in the future.
Reasons To Refinance An FHA Mortgage
There are different reasons for different borrowers to refinance an FHA mortgage, but it essentially comes down to three main motivators.
Lower Or Increase Monthly Payment
You may be feeling financial stress and finding it hard to make your monthly mortgage payment, so extending your mortgage term can help with that. Or maybe you can afford to pay off your mortgage in 15 years instead of the remaining time left on your current mortgage. You may also find out your original mortgage is charging a higher interest rate than what is currently available and want to make a change.
If paying less (or more) each month sounds good, you are a great candidate for a rate and term refinance. We’ll discuss the FHA Streamline in detail below.
Stop Paying MIPs
When you apply for an FHA loan, you pay an upfront mortgage insurance premium and then continue to make monthly payments for the first 11 years of the mortgage, regardless of how much home equity you have. Conventional mortgages stop charging home buyers for PMI – the private sector equivalent of MIPs – when homeowners reach a home equity level of 20%, or 80% loan-to-value ratio (LTV).
If removing MIPs from your monthly mortgage payment sounds like a plan, you might be interested in trading in your current FHA mortgage for a conventional mortgage. We’ll discuss that option more below.
Lock In Low Interest Rates
If you selected an FHA adjustable-rate mortgage when you purchased your home, and your introductory period is coming to an end, you might want to consider applying for a fixed-rate mortgage to lock in now at what are still very low interest rates.
While not at historic lows, these rates could increase in the future due to inflation, but if you apply right now, you can lock in a low mortgage rate.
FHA Refinance FAQs
You have questions, we have answers.
How soon can I refinance an FHA loan?
You must meet these three “seasoning requirements” before you can refinance your loan:
- Six payments on the FHA-insured mortgage that is being refinanced must have been made.
- Six months must have passed since the first payment due date of the FHA-insured mortgage that is being refinanced.
- The FHA-insured mortgage that is being refinanced must be 210 days old from the closing date.
The term “seasoning” refers to how long you need to hold on to something – in this case, a mortgage. It’s a method to determine how soon you can refinance an FHA Loan.
Do I have to pay MIPs again if I do an FHA Streamline?
When you refinance with an FHA Streamline, you’ll receive a refinance credit for your previous MIP payment towards your new upfront MIP payment. But, yes – you will have to pay MIPs as long as you keep the mortgage. The only way to escape MIPs is to build up to a 20% home equity so that you can refinance into a conventional mortgage without PMI.
Do FHA loans have prepayment penalties?
No. The rules passed in the wake of the 2008 Great Recession prohibit prepayment penalties in FHA loans.
The Bottom Line: You Have Several Options For Refinancing Your FHA Loan
FHA loans have many benefits, including a low down payment and more flexible credit requirements. Still, there may come a time when it makes sense to refinance your mortgage to reduce or remove MIP, lower your rate, change your term or take cash out.
Take advantage of our Learning center to learn more about which refinance options best meets your needs.