For most mortgage borrowers, there are three major loan types: conventional, FHA and VA. Each loan type comes with a different set of qualifications, benefits and drawbacks.
A conventional loan is a mortgage that is not backed or insured by the government, including all Federal Housing Administration, Department of Veterans Affairs and Department of Agriculture loan programs. Conventional loans typically have fixed interest rates and terms.
An FHA loan is a loan that’s insured by the Federal Housing Administration. The FHA does not lend money; it backs qualified lenders in case of mortgage default. There are certain criteria both borrowers and lenders must meet to get FHA approval.
Like with FHA loans, VA loans are insured by the U.S. Department of Veterans Affairs, or VA. The VA does not lend money; it insures qualified lenders. If a borrower defaults on their home loan, then the lender is protected by the VA. Lenders and borrowers must both meet qualifications to be VA-eligible.
|Conventional loan||FHA loan||VA loan|
|3% minimum down payment; 20% to avoid private mortgage insurance (PMI)||3.5% minimum down payment||No minimum down payment|
|620 minimum credit score||580 minimum credit score with 3.5% down; 500 minimum credit score with 10% down||No minimum credit score|
|No PMI upfront, but fees monthly if putting less than 20% down||1.75% PMI upfront, with fees yearly||1.25%-3.3% funding fee upfront|
|Best for borrowers with excellent/good credit||Best for borrowers with lower credit scores or high debt-to-income ratios||Best for service members and veterans and their spouses|
To get an idea of which loan might be right for you, start with the basic facts. Here is how they compare.
Conventional loans are one of the most popular types of mortgages and ideal for borrowers with good or excellent credit.
However, depending on the financial institution and the borrower’s circumstances, those with poorer credit might qualify for a conventional loan. Usually, credit unions and independent banks, which often have more personalized relationships with their customers, are more likely to bend conforming loan rules, which most big banks follow.
Pro: Conventional mortgages generally pose fewer hurdles than FHA or VA mortgages, which may take longer to process.
Con: You’ll need excellent credit to qualify for the best interest rates.
A conventional loan could be your best choice if:
- You have good or excellent credit, with a credit score of at least 620, to be able to qualify for the lowest interest rates.
- You’re purchasing a rental property, vacation or second home, or a property you plan to fix up and flip.
- You have enough money saved for a 20 percent down payment so you avoid paying for private mortgage insurance (PMI).
FHA loans have flexible lending standards that you can benefit from. They are typically suitable for:
- People whose house payments will be a big chunk of take-home pay.
- Borrowers with lower credit scores.
- Homebuyers with small down payments and refinancers with little equity.
The FHA allows borrowers to spend up to 57 percent of their income on monthly debt obligations, such as mortgage, credit cards, student loans and car loans. In contrast, conventional mortgage guidelines tend to cap debt-to-income ratios at around 43 percent.
For many FHA borrowers, the minimum down payment is 3.5 percent. Borrowers can qualify for FHA loans with credit scores of 580 and even lower.
Each FHA loan has two mortgage insurance premiums:
- An upfront premium of 1.75 percent of the loan amount, paid at closing
- An annual premium that varies; most FHA homebuyers get 30-year mortgages with down payments of less than 5 percent. Their premium is 0.8
- percent of the loan amount per year, or $66.67 a month for a $100,000 loan.
Pro: FHA loans are often the only option for borrowers with high debt-to-income ratios and low credit scores.
Con: To get rid of FHA insurance premiums, you must refinance the loan or pay it off.
An FHA loan could be your best choice if:
- Your credit isn’t perfect, but your credit score is at least 580 and you can put down 3.5 percent of the purchase price (or, your credit score is 500 to 579 and you have a 10 percent down payment).
- You plan to live in the property.
- The purchase price meets FHA mortgage limits. In 2020, the limits are $331,760 in the majority of the country and $765,600 in high-cost areas.
With a VA loan, no down payment is required from borrowers buying primary residences. The VA charges an upfront VA funding fee, which can be rolled into the loan or paid by the seller. The funding fee varies from 1.25 percent to 3.3 percent of the loan amount.
The VA allows sellers to pay closing costs but doesn’t require them to. So, the buyer might need money for closing costs. Borrowers may need money for the earnest-money deposit.
Pro: Veterans do not have to be first-time buyers and may reuse their benefit.
Con: The VA does not guarantee the full amount of the loan, which means borrowers might be subject to additional requirements from the bank. The amount the VA guarantees, which varies by county, might affect how much the bank is willing to lend.
A VA loan could be your best choice if:
- You or your spouse are military service members or veterans.
- You don’t have money for a down payment.
- Your credit score is fair or poor.
- You plan to occupy the home.
Which is better: conventional, FHA or VA?
In addition to whether you meet the necessary requirements, consider your finances, needs and preferences when comparing a conventional loan to an FHA or VA loan. Each has its own benefits that can impact your individual situation.
Remember that, generally, conventional loans are better suited for borrowers with a higher credit score, while FHA and VA loans can be ideal for those with a lower score.
Like an FHA loan, a conventional loan requires PMI payments, but only if you’re putting less than 20 percent down, and the payments can be removed when you hit a certain equity threshold. With an FHA loan, you can’t get rid of PMI unless you refinance or pay off the mortgage. With a VA loan — available to military service members and veterans and their spouses — there is no PMI requirement, but you’ll have to pay a funding fee based on the amount of the loan.
Now that you’re familiar with the basics on conventional, FHA and VA loans, dig deeper to find the perfect financing solution for your homebuying needs:
- Compare five types of mortgages for homebuyers.
- Study this guide to FHA loans.
- Learn more about VA loans and who is eligible for them.
- Use this mortgage calculator to estimate your monthly payment for various properties.