FHA Loan Guide: Limits and Requirements in 2023

Owning a home is a major goal for many people — for good reason. In addition to having a place to live that’s yours, home values historically increase over time. That makes owning a home a good investment.

But affording a home can be difficult for first-time homebuyers. You need cash for a down payment and closing costs, plus the income and credit score to convince lenders you’re a good bet.

To encourage homeownership and make loans available to more buyers, the Federal Housing Administration helps mortgage lenders offer loans that require a down payment as low as 3.5%. FHA loans also are easier to get for borrowers with less-than-perfect credit. But they come with limits, so read on to learn what you need to know about FHA loans.

What Is an FHA Loan?

An FHA loan is a mortgage insured by the Federal Housing Administration. Because federal backing reduces the risks for lenders who offer FHA loans, borrowers may qualify with lower credit scores and smaller down payments than are needed to get other types of loans.

“The credit score requirements are typically lower for FHA borrowers,” says Jeff Shipwash, founder of Shipwash Properties in Knoxville, Tennessee. “If a homebuyer has less-than-stellar credit and little money to use towards closing, FHA loans are a great option.”

However, FHA loans aren’t right for everyone.

“FHA loans should be avoided by someone who has great credit, and also someone who has funds to contribute towards buying a home,” Shipwash says. “FHA loans require mortgage insurance at closing and during the entire life of the loan. If you have an FHA mortgage, you will need to completely refinance it in order to eliminate the mortgage insurance.”

There also are market considerations when taking out an FHA loan.

“If you are placing an offer on a home that has a lot of interest, you will not be competitive if you are using an FHA loan to purchase,” Shipwash says. “FHA has very strict requirements on the properties they finance, and could be a hassle for the seller.”

How Does an FHA Loan Work?

The FHA began backing mortgages in 1934 to encourage lenders to offer more loans with more lenient requirements that more borrowers could qualify for.

The FHA doesn’t lend money to borrowers directly. It works with private lenders, which issue FHA loans according to government guidelines. If a buyer defaults on their mortgage, the FHA reimburses the lender for the unpaid balance on the loan. The lender faces little risk when offering an FHA mortgage because it is guaranteed to get back its money.

For borrowers, FHA loans work like traditional mortgages. The primary difference is that you have to pay for mortgage insurance, which is harder to avoid or remove than it is for conventional loans.

What Are the FHA Loan Limits in 2023?

Each year, the Federal Housing Administration sets limits on how much can be borrowed with an FHA loan. These limits are based on the location of the property, as well as the number of units in the home.

The FHA sets both a floor and a ceiling for loan amounts. The floor is the limit that applies in low-cost areas, and it equals 65% of the national conforming limit. The ceiling applies in high-cost areas and is 150% of the national conforming limit. There are exceptions to these limits for loans outside of the continental United States. For 2023, the national conforming limit is $726,200, which makes the low-cost limit $472,030 and the high-cost limit $1,089,300 for a single-family home.

Minimum Requirements for an FHA Loan

There are specific FHA loan requirements that potential borrowers must meet to qualify for a mortgage.

Credit score of at least 500

The minimum credit score that you need to qualify for an FHA loan is 500. If your score is between 500 and 579, you’re required to make a down payment of 10% of the purchase price.

If your credit score is 580 or higher, you can make a smaller down payment of 3.5%.

Keep in mind that these minimums are set by the FHA. Some lenders may set their own requirements for applicants’ credit scores. If your credit score qualifies and you are denied an FHA loan, you can try again with another lender.

Down payment of at least 3.5%

Assuming you have a credit score of 580 or better, you could get an FHA loan with the smallest possible down payment of just 3.5%. If your score is between 500 and 579, you’ll need to offer a 10% down payment to secure a loan.

Your credit score makes a big difference. Let’s say you want to buy the median home, which cost $436,800 in the first quarter of 2023. Your minimum down payment would be $15,288 if you have a credit score of 580 or above. If your score is under 580, your minimum down payment would be $43,680. That’s a difference of $28,392.

Many states offer down payment assistance programs for low-income families, who also tend to benefit from FHA loans. Even if you’ve struggled to save enough for a down payment, these programs can help.

Debt-to-income ratio of 50%

FHA loan borrowers need to have a back-end DTI ratio of 50% or less. That means your total monthly debt outlay — including your potential mortgage payment — can take up no more than 50% of your income.

For example, if your monthly income is $5,000, you would need to ensure that your debt payments, including your potential mortgage, total no more than $2,500. You can use a DTI ratio calculator to check yours.

FHA standards also consider the size of the mortgage payment compared to the borrower’s income. This is called the front-end DTI ratio. Generally, the loan is only acceptable if the payment is no more than 31% of the borrower’s monthly income.

Energy-efficient homes can have payments as high as 33% of the borrower’s income, and certain compensating factors may push the limit higher.

Types of FHA Loans

There are many different types of FHA loans, each tailored to specific needs and situations. The loans you are eligible for — and the loans that make the most sense for you — will depend on your homebuying goals, as well as the type of home that you want to buy.

Fixed-rate mortgage

The fixed-rate mortgage is a basic type of FHA loan. With a fixed-rate mortgage:

• The interest rate on the loan doesn’t change.
• The monthly payment for principal and interest doesn’t change. Other costs, like property taxes or insurance, may change over time.
• You can choose the repayment term, which is usually 15 or 30 years.

Fixed-rate mortgages provide certainty, but you won’t have the opportunity to save money if interest rates drop. The only way to reduce the loan’s interest rate is to refinance your mortgage.

Adjustable-rate mortgage

Adjustable-rate mortgages are another type of FHA loan. One of the main differences between a fixed-rate mortgage versus an ARM is that the interest rate on an ARM is typically lower than on a fixed-rate mortgage — at least at first. After a set introductory period, the interest rate on an ARM will change, usually once a year, based on a benchmark interest rate. It could increase or decrease, which in turn changes your monthly payment.

Most ARMs come with minimum and maximum interest rates, so you can estimate best- and worst-case scenarios after the introductory rate expires.

As you shop around for ARMs, you’ll see them described as 5/1, 7/1, etc. These numbers refer to the initial rate lock period and the frequency of rate adjustments. For example, a 5/1 ARM has an initial rate lock of five years, after which the rate changes once per year.

Reverse mortgage

The FHA also insures reverse mortgages, aka home equity conversion mortgages. They allow qualified homeowners ages 62 and older to borrow against their home equity as a source of income. There are no income or credit requirements, but you must own and live in the property as your primary residence.

You’ll receive payments from the lender based on:

• The amount of equity you’ve built in your home.
• The age of the youngest person on the loan.
• Current interest rates.

The loan must be repaid when you no longer live in the home. Typically, proceeds from the sale of the home are used to repay the reverse mortgage, with FHA insurance kicking in only if the proceeds fail to fully repay the loan.

Graduated payment mortgage

Graduated payment mortgages are designed for low-income borrowers who expect their incomes to increase substantially in the next five to 10 years. These FHA-insured loans have low closing costs and initially low payments. The monthly payments increase at a rate of either 2.5%, 5%, or 7.5% over the first five years of the loan, or at a rate of 2% or 3% over the first 10 years of the loan.

Graduated payment mortgages can result in negative amortization. That means your early payments might not cover the interest that accrues, and you’ll owe more than the home is worth. Over time, your payments will bring down your balance and you’ll no longer be underwater on the home.

Growing equity mortgage

Growing equity mortgages are similar to graduated payment mortgages in that they’re designed for people who expect their incomes to increase in the future. The difference is that growing equity mortgages don’t allow negative amortization, so your loan balance will never grow as long as you make your monthly payments.

Energy-efficient mortgage program

FHA energy-efficient mortgages are for current homeowners and people who want to buy a home. These loans help cover the costs of energy-efficient improvements to a property.

To qualify, you’ll need a home energy assessment to determine the cost and potential savings of making energy-efficient improvements. Improvements must be cost-effective ⁠— meaning they cost less than the energy they’ll save ⁠— to be eligible.

With an energy-efficient mortgage, you can borrow the lesser of:

• The cost of the improvements.
• Or the lessor of 5% of:
  • The property’s value.
  • 115% of the median area price of a single-family home.
  • 150% of the national conforming loan limit, which is set by the Federal Housing Finance Agency.

Additional Types of FHA Loans

The FHA also offers loans for nontraditional types of homes.

Manufactured home FHA loans

The FHA offers fixed-rate loans for the purchase of manufactured homes. They typically have a term of 20 years, but there’s a 15-year term limit for only purchasing a lot, and a 25-year term option for the purchase of a multisection manufactured home and a lot.

Qualified buyers can borrow up to $92,904 to finance a manufactured home and a lot. You don’t need to own a lot for your manufactured home, but you must be able to show that you’ve secured a location to place it after the purchase.

Condominium FHA loans

You can apply for an FHA loan to buy a condominium. These loans come with terms of up to 30 years and require a down payment of just 3.5%. Eligible condo projects must consist of only single-family units and be primarily residential in nature, in full compliance with local and federal housing laws, ready for occupancy, and approved by a local jurisdiction. You can search online for FHA-approved condos.

Home improvement and refurbishment FHA loans

FHA 203(k) loans help qualified homeowners and homebuyers rehabilitate a property. Homeowners can get these as stand-alone loans, and homebuyers can add them to their mortgage if they’re buying a fixer-upper.

With a 203(k) loan, homeowners can borrow a minimum of $5,000, and up to the lesser of:

• The value of the property plus the cost of the improvements.
• 110% of the value of the property after the improvements are completed.

Eligible home improvements include:

• Structural alterations and reconstruction.
• Modernization.
• Elimination of hazards.
• Appearance changes.
• Plumbing and septic systems.
• Roofing and gutters.
• Flooring.
• Landscaping.
• Accessibility for people with disabilities.
• Energy efficiency.

FHA Loan Costs

FHA loans have unique costs and requirements that borrowers need to consider. The main considerations are mortgage insurance — which can be difficult to eliminate with an FHA loan — and the need to make sure that the home conforms to specific building codes.

Mortgage insurance premium

All FHA loans require mortgage insurance, paid by the borrower. These payments include an upfront premium of 1.75% of the loan amount, and an annual premium that ranges from 0.45% to 1.05%of the loan amount, depending on how much you borrow, your loan term, and the down payment.

Unlike private mortgage insurance, FHA mortgage insurance cannot be removed from the loan by building equity. Instead, how long you’ll pay insurance varies from 11 years to the full term of the mortgage, depending on the loan amount, loan term, and down payment.

Property requirements

The FHA only offers loans for certain types of homes. To qualify, you must be an owner-occupant of the home you’re buying. The property also must have no more than four units.

The Department of Housing and Urban Development maintains building codes describing the construction standards for new homes purchased using FHA loans. These standards supplement local codes and require elements such as an adequate numbers of bathrooms, handrails for stairs, and other safety requirements.

If you want to buy a property with an FHA loan, you may need to work with the seller to make repairs or improvements to get the property to conform to these requirements.

Is an FHA Loan Right for You?

FHA loans are a suitable choice for many homebuyers, but it’s important to understand the pros and cons before moving forward.

Pros of FHA loans

• Low down payment requirements.
• Many loan options are available.
• Loans available for many types of properties.

Cons of FHA loans

• Requires mortgage insurance.
• Lower down payments result in higher monthly payments.
• FHA loan limits might not be high enough to buy a home in expensive areas.

How To Apply For an FHA Loan

To apply for an FHA mortgage, follow these steps.

1. Find FHA-approved lenders

The Federal Housing Administration only works with approved lenders, which must meet strict requirements to offer FHA loans.

HUD maintains a searchable list of mortgage lenders, which you can use to narrow down your options. You also can try a mortgage calculator to estimate the cost of a loan before you apply.

2. Submit applications and documents

To apply for a mortgage, you must fill out a detailed application. Lenders also will ask for documentation to support the information you provide on the application form.

Some of those documents include:

• Address or addresses for the past two years.
• Social Security numbers.
• Employment history for the past two years.
• Gross monthly income.
• Information on financial accounts.
• Total approximate value of all property.
• If an applicant is self-employed: two years of tax returns, income statements, and balance sheets for their business.

3. Compare loan estimates

Each lender will give you a document called a loan estimate, which includes the mortgage’s interest rate, closing costs, and monthly payment. Make sure to apply for loans from multiple lenders, so you can compare mortgage offers and get the best deal for your situation.

4. Schedule a home inspection and an appraisal

Once you make an offer on a home and it’s accepted, you’ll need to schedule an inspection and appraisal to make sure the home is in good condition, and that it’s worth enough to secure your loan. If the home appraises for too little, you may have to make a larger-than-expected down payment, or back out of the deal altogether.

FHA Loan Assistance and Relief

FHA loans are a great way for people to buy their first home. However, it can be hard to get enough money for your first down payment, and borrowers sometimes run into issues with making payments.

Down payment assistance

Many states operate down payment assistance programs that can help first-time and low-income buyers afford to make a down payment on a mortgage. Some programs operate on a town-by-town or city-by-city basis.

For example, Boston has a first-time homebuyer program that offers down payment funds and can help borrowers secure low-interest loans.

Gifts

If your family is helping with your down payment by giving you financial gifts, it’s important to make sure you handle those gifts properly.

For FHA loans, the government requires that gifts be true gifts, with no expectation of repayment. They also must come from:

• A relative.
• An employer or union.
• A close friend with a documented and defined interest in the borrower.
• A charity.
• A government agency.

Gift givers cannot be people with an interest in the sale of the property, such as the seller, an agent, or a builder. The borrower must be able to show that the gift comes from an acceptable source.

Help with payments

Once you have your loan, you might find yourself in a situation where you’re struggling to make your monthly payments. The FHA offers multiple options for relief to help you avoid foreclosure.

For example, the FHA has a forbearance program for people who lose their job, as well as informal options where borrowers can work with their lender to get forbearance in other situations.

There also are loan modification programs that allow you to extend the term of your loan to reduce your payments or to adjust the mortgage in other ways to make them more affordable.

If you’re having financial issues, reach out to your lender before you start missing payments. The lender may be able to work with you to find a solution.

FHA Loan FAQ

FHA loans are one of the best ways for first-time buyers to afford a home. Before you apply for one, it’s important to understand how they work.

The Bottom Line on FHA Loan Requirements in 2023

Buying a home is a big undertaking, as well as a long-term financial commitment. For many people, the obstacles to affording a home would be nearly impossible to surmount if FHA loans didn’t exist. Low down payments and generous requirements make FHA loans a great option for those who need a little extra help to make their homeownership dreams a reality.