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An FHA loan may have been the right choice at the beginning of your homeownership journey, but the time may come when a conventional loan better fits your needs. Refinancing can help you get a better interest rate and terms, as well as eliminate your mortgage insurance premium (MIP) when your home’s equity has reached 20%.
Yes, it’s possible to refinance your FHA loan to a conventional loan. Refinancing your FHA loan can be a smart choice for many reasons, especially when you have 20% equity in your home. When you reach 20% equity, you can refinance to remove your MIP and you won’t have to pay for private mortgage insurance (PMI) on your refinance loan either.
Unlike an FHA loan, a conventional loan isn’t backed by the government and requires private mortgage insurance (PMI) to protect the lender when the down payment is less than 20%. FHA loans also require insurance, which is called the mortgage insurance premium (MIP).
However, unlike PMI, you can’t as easily get rid of MIP when you reach 20% equity as you can with a conventional loan. In most cases, you have to refinance your FHA loan to a different type of mortgage to remove MIP.
Here are some of the key differences between FHA and conventional loans.
|Feature||FHA loan||Conventional loan|
|Loan limits||Up to $356,362 in most areas, or more for certain high-cost areas.||Up to $548,250 for most areas, or more for certain high-cost areas.|
|Mortgage insurance||MIP is required and cannot be removed without refinancing (for loans originating after 2013).||PMI is required when your down payment (equity) is less than 20%. PMI can be removed when your equity reaches 20%.|
|Credit requirements||500, but most lenders will require a score of at least 580.||Usually 620, but scores of at least 740 can expect the best loan terms.|
If you don’t want to pay the closing costs associated with a refinance or lack the documentation to apply for a new loan, an FHA Streamline Refinance may be a good option as a credit and income check isn’t required. To qualify for an FHA Streamline Refinance loan, you must have three months of on-time payments and have had your current loan for at least 210 days. Bear in mind that you still have to pay MIP and a new upfront mortgage insurance fee with an FHA Streamline Refinance.
While they’re similar acronyms, PMI and MIP are different types of mortgage insurance, and which one you pay depends on the type of loan you have.
Here are the key differences.
Mortgage rates are reaching historic lows, making it an ideal time to refinance. In addition to jumping on the low rate bandwagon, there are other reasons that refinancing an FHA loan to a conventional loan makes a lot of sense and could save you a heap of cash.
You may want to consider refinancing your FHA loan when:
While refinancing can be hugely beneficial, keep in mind that it costs money — anywhere between 2% to 5% of the amount of your refinance loan. It only makes sense to refinance if you plan on staying put long enough to recoup the cost.
Also, you may need to provide your credit and work history to qualify. However, some lenders will waive these requirements, or you can choose an FHA Streamline Refinance and bypass them altogether.
Let’s use an example to illustrate the savings you can gain through a refinance.
Tonia and Jared took out a $360,000, 30-year fixed FHA loan at 6.5%, and they’ve been paying for five years. At this interest rate, their payment works out to $2,275 every month. They’ve also been paying $2,500 a year in MIP.
The couple has now reached 20% equity and found a refinance loan for 4.5%, a 2% reduction in interest. This would reduce their payment to $1,824 – a savings of $5,412 per year or $135,300 over the life of their loan. And because they’ve reached 20% equity in their home, they can remove their MIP payments, allowing them to pocket an extra $2,500 every year.
Once you’ve determined that refinancing is right for you and you meet the basic requirements, refinancing an FHA loan is a straightforward process.
Here are the steps to get started:
If you’re considering refinancing your FHA loan, you don’t need to take out a mortgage with your original lender. Rather, you’re free to compare your options and go with the lender that best fits your needs. However, as with any refinance loan, you may be required to meet certain criteria.
While refinancing a loan involves time and energy, the amount of money you can save can far outweigh the effort involved. A few days spent researching lenders and applying for a refinance loan could save you tens of thousands down the road. To learn more about refinancing, see our mortgage refinancing guide.
A refinance break-even point is when the savings from your refinance through lower payments exceeds the cost of the refinance.
To get your refinance break-even point, divide the cost of the refinance by your monthly savings. For example, if a refinance costs $4,500 and the monthly savings from the refinance is $450, the break-even point is 10 months ($4,500/$450=10). After the 10-month mark, you can start pocketing the $450 in monthly savings.
Yes. Some lenders offer mortgage refinancing with no closing costs, but the trade-off may be a higher interest rate. Alternatively, you can refinance your FHA loan using an FHA Streamline Refinance, which has no closing costs. But there is no cash-out option, and you still have to pay MIP and a new upfront mortgage insurance fee.
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