Government-backed mortgages

Government-Backed Mortgages

A government-backed mortgage is a home loan the federal government guarantees in case the homeowner defaults. These home loans are offered by mortgage lenders as the government does not lend directly to consumers. Government-backed mortgages are designed to help four groups of Americans.

  • Enable new home buyers or those with poor credit to obtain a mortgage
  • Assist senior citizens with converting their home equity into cash
  • Help those who have served our country obtain financing to buy a home
  • Provide mortgages to home buyers in rural communities.

Government-backed mortgages play a vital role in the mortgage industry. In 2022, the total percentage of government-backed mortgage loans used to purchase a home was 28.10%, which was down 1.20% from 2021 (in 2021, the total share of government-backed mortgages for all closed purchase loans was 29.30%)1.

Below I will cover the three types of government-backed mortgages, the qualifications the government requires, and the pros and cons associated with these types of mortgages.

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Three available government-backed mortgage options

There are three options available for those seeking to secure a government-backed mortgage.

FHA Mortgage

Congress created FHA in 1934. FHA stands for Federal Housing Administration and is run but the U.S. Department of Housing and Urban Development.

There are two types of FHA mortgages.

  • FHA mortgages for those with less-than-perfect credit and/or low down payment
  • FHA offers a program that explicitly benefits senior citizens, commonly referred to as a Reverse Mortgage or a Home Equity Conversion Mortgage (HECM)

Congress created the FHA in 1934, a time when only 1 in 10 households owned homes2. The FHA mortgage program is open to anyone purchasing a primary home or refinancing a current mortgage attached to a primary residence (provided they meet the basic qualifications, see below).

VA Mortgage

The VA mortgage program is available to anyone who has served our country. In 1944, President Franklin Roosevelt signed legislation to help returning WW II veterans financially. Known as the Servicemen’s Readjustment Act (aka GI Bill)3. The Servicemen’s Readjustment Act provided a provision for helping our veterans purchase a home; the VA mortgage program.

The initial VA mortgage program had three strict rules;

  • Service members had five years to request the VA mortgage benefit
  • A hard benefit cap of $2,000
  • Loan terms of up to 20 years

Over the following decades, these guidelines were expanded, and the VA mortgage program remains an integral part of the total benefits our service members receive from the federal government.

USDA Mortgage

The USDA mortgage program was established in 1991 to help rural homebuyers purchase homes (USDA stands for the United States Department of Agriculture). The USDA utilizes a field staff to assist lenders who provide USDA mortgage loans, to better serve rural communities. In the first 25 years of the program, the USDA issued nearly 1.5 million loan guarantees, helping a wide variety of families across the country4.

The program provides a loan guarantee to lenders that issue mortgages to rural homeowners in case the homeowner defaults.

Government-backed mortgage qualifications

Like all other types of mortgages, government-backed mortgages have basic qualification requirements.

FHA Mortgage Qualifications

Here are the basic qualifications needed for an FHA mortgage.

  • 580 or higher credit score
  • A debt-to-income ratio (DTI) of 43% or lower. In some cases, it can go as high as 50%.
  • 3.50% down payment (or equity if refinancing)

If you meet all three qualifications, there is a good chance you will get approved for an FHA mortgage.

VA Mortgage Qualifications

Here are the basic qualifications needed for a VA mortgage.

  • 580 or higher credit score
  • A DTI of 41% or lower. In some cases, it can go over a 50% debt-to-income ratio
  • Certificate of Eligibility (COE)
  • Residual income standards (these vary depending on expenses)

The VA does not require a down payment. If you meet all four qualifications, you most likely will obtain a loan approval from a VA mortgage lender.

USDA Mortgage Qualifications

Here are the basic qualifications needed for a USDA mortgage.

  • 640 or higher credit score
  • A DTI of 46% or less
  • Income does not exceed 115% of your Area Median Income (AMI)

USDA does not require a down payment like the VA, but the property must be in a rural area. If you meet these basic qualifications, you have a good shot at getting qualified for a USDA mortgage.

Pros and cons of a government-backed mortgage

Here are the pros and cons of a government-backed mortgage.

Pros

  • Easy qualifications
  • Low credit scores accepted
  • Flexible DTI requirements
  • No cash savings required
  • Low or no down payment required
  • No pre-payment penalty

Cons

  • Upfront funding fee
  • Geographic restrictions (USDA)
  • Income limits (USDA)
  • Mortgage Insurance (FHA)
  • Loan amount limits
  • Property type restrictions

The pros of a government-backed mortgage outweigh the cons (if you are qualified to obtain one of three options).

Government-backed mortgage faqs

There is much to learn with government-backed mortgages, so here is a list of frequently asked questions.

Which government-backed mortgages are good for people with bad credit?

FHA and VA are the best government-backed mortgage programs for people with bad credit. While FHA and the VA have no set credit score requirements, most mortgage lenders that offer these programs have a minimum credit score of 580.

Can first-time homebuyers use government-backed mortgages?

Absolutely! All three programs are great for first-time homebuyers; however, the FHA mortgage program is considered the best program for first-time homebuyers (unless you are a veteran).

Are government-backed mortgages good refinance options?

Both the FHA mortgage and VA mortgage programs have a special refinance option.

These two government-backed mortgage refinance programs are some of the best refinance options in the industry. Super easy qualifications and a fast closing process. No appraisal, no credit check, and no income documentation are required.

Some basic qualifications need to be met. For example, there needs to be a clear benefit to doing the refinance, and you must have paid your mortgage payment on time before your refinance application.

Are there government-backed renovation mortgages?

FHA and VA offer a renovation mortgage program.

  • FHA 203(k)
  • VA Renovation Loan

These two programs allow a homeowner to get one mortgage for two purposes. The first purpose is that it’s a regular mortgage, just like any other regular refinance mortgage. Second, it includes cash-out funds to pay for the renovation of a home so you can avoid having to get a second/separate mortgage for renovations.

These renovation mortgage programs have loan limits and a cap on the amount you can borrow to renovate the home. For example, the VA renovation mortgage program is capped at $50,000 for renovations (in addition to the amount needed to pay off your current mortgage).

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Is a government-backed mortgage right for you?

The three available government-backed mortgage programs are excellent options to consider. If you are a first-time homebuyer with less than perfect credit and/or a small downpayment, your best option to buy a home might be the FHA mortgage program.

If you are a current or former member of our military, then you have access to one of the best mortgage programs in the country. The VA mortgage program is outstanding and provides an excellent opportunity to those who have served to buy a home or refinance a current mortgage.

To the millions of Americans living in rural communities, the USDA mortgage program should be your top consideration when looking to purchase a home or refinance a mortgage.

Government-backed mortgages are an excellent solution for millions of Americans. If one of these options fits your financial goals and you are eligible to take advantage of the program, then I believe it is the right fit for you.

Sources:

  1. 2022 Mortgage Data – Consumer Financial Protection Bureau
  2. About FHA – US Housing and Urban Development
  3. VA mortgage history – MilitaryTimes
  4. USDA mortgage – USDA
Loan Officer Kevin O'Connor

About The Author

Loan Officer Kevin O'Connor has over 17 years of experience as a Mortgage Loan Originator and is a trusted resource for mortgage education and information. He's licensed by the state of California and the Nationwide Mortgage Licensing System. He has a top rating with the Better Business Bureau, Google, Yelp, and Zillow. You can contact him at 1-800-550-5538. CA DRE #01499872 / NMLS #247447