Government-backed mortgages are loans obtained through a private lender, such as a bank, but insured by one of three federal government agencies: the Federal Housing Administration (FHA), the U.S. Department of Agriculture (USDA) or the Department of Veterans Affairs (VA).
Because the government backs these loans, lenders can take greater risks by allowing lower credit scores and no or low down payments. However, they have different requirements and cost structures from conventional mortgages, the most common type of mortgage. A government loan may require upfront fees and mandatory mortgage insurance, for example.
How Do Government-Backed Mortgages Work?
Government-backed loans are a partnership between federal agencies and private lenders, with the backing agency insuring the loan should the borrower default. The government places strict requirements on eligibility and property type, but they leave other criteria—like interest rates, and in some cases, credit scores—up to lenders.
Not all lenders choose to participate in these programs. For those that do, the loan process is similar to getting a conventional loan, but borrowers face additional requirements along the way, like having a government-approved appraiser ensure the property meets minimum standards. Each type of government-backed mortgage also has its own fee structure. All three require an upfront fee for most borrowers, and FHA and USDA loans require ongoing monthly fees.
Pros and Cons of Government-Backed Mortgages
Government-backed mortgages can be hugely beneficial and make buying a home more accessible, but they're not for everyone and aren't always the best deal.
Pros
- Low or no down payments: FHA loans offer down payments of 3.5%, and VA and USDA loans require nothing. While some conventional loans offer low down payments, it's rare to find one lower than an FHA loan.
- More lenient credit criteria: If your credit score needs improvement or you have some blemishes on your credit report, you might get approved more easily with a government-backed loan than a conventional one.
- Flexible with funding: Most loans don't allow, or limit, using money from family, an employer or a charitable organization as a gift as a down payment. FHA and USDA loans don't have these restrictions.
Cons
- Strict eligibility requirements: Not just anyone can qualify for a government-backed loan. For example, USDA loans are restricted to owner-occupied primary residences in rural locations and carry income limits.
- Limited to specific property types: It's common to find restrictions on things like property location, type, occupancy, value and safety and security controls.
- Not always the best deal: If you have decent credit and some down payment money saved, it's possible you'll get a better deal with a conventional loan with fewer upfront and ongoing fees. Get a quote for both loan types to compare.
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