What does the FHA insurance schema actually mean?

Question

Because of my low savings, but high-income/high-credit-score scenario, I'm only able to get my first house by using an FHA loan (as far as I can tell.) I want to do a 3.5% down, 30-year loan for a house in the $500-600k range. I understand that the main draw back of FHA is the insurance(s) required.

According to the HUD website, FHA mortgage insurance exists because:

All Loan Terms (Greater than 15 years and less than or equal to 15 years):

LTV greater than 90% Annual MIP will be collected until the end of the loan term, or 30 years, whichever occurs first.

LTV less than or equal to 90% Annual MIP will be collected until the end of the loan term, or 11 years, whichever occurs first.

You also have to pay the 1.75% for any amount of loan at all LTVs.

I don't understand at which scale these percentages apply (yearly, monthly, entire loan?). I can figure out the mortgage payment, property taxes, and home owners insurance, but I need some help understanding how much the monthly insurance amount would cost, and how to end the need for the insurance either through refinancing, reaching these LTV benchmarks, etc.

Answer 1

You'll pay an up front premium of 1.75% (of the loan value) when you get the mortgage (added to your loan amount). From there, the annual mortgage insurance premium is variable, currently 0.8%-1.05% per FHA website:

Base Loan Amount    LTV       Annual MIP
≤ $625,500           ≤ 95%     80 bps (0.80%)
≤ $625,500           > 95%     85 bps (0.85%)
>$625,500            ≤ 95%     100 bps (1.00%)
> $625,500           > 95%     105 bps (1.05%)

So, currently for a loan of 500-600k at 3.5% down you'd pay 0.85% (annually 0.85%, but divided evenly into your monthly payments). You multiply this rate by the average principal balance over the next 12 months.

For a new FHA loan with less than 10% down, you do not qualify for MIP cancellation, you'd have to refinance to a conventional loan to get away from it. Closing costs on a refinance can be substantial, and interest rates could go up between now and then.

There are conventional loans that require 5% down that will similarly saddle you with mortgage insurance (PMI), but some lenders will remove it with an appraisal showing 20% equity, no re-finance required. I did this on my first house, had to pay a few hundred for an appraisal so waited until I was very confident of the value, but due to wild price growth in my area I was at 20% equity in something like 14-16 months with a 5% down payment.

Waiting and saving up a larger down payment and/or focusing on a less expensive house is typically what I would advise, but for some people in high-growth areas prices are rising faster than they can save so waiting doesn't help.