Rejection hurts. And itâs even more upsetting when it gets in the way of buying your dream home.
Once you get your offer accepted, it may feel like thereâs nothing thatâll stop you. But, unless youâre a cash buyer thereâs one last hurdle youâll need to go through before everythingâs final. Itâs called the mortgage underwriting process, and itâs used in real estate to determine whether your loan application â and your chances of buying the home you want â will be accepted or rejected.
Itâs important to understand how underwriting works, the top reasons why mortgage loans are denied in underwriting and some tips for preventing loan denial.
Demystifying FHA Loan Fallout Rates What the Data Shows
As a first-time homebuyer exploring financing options, you’ve probably heard about FHA loans. With low down payments and flexible credit requirements FHA loans offer an accessible path to homeownership for many buyers.
But I’ve also heard worries from buyers that FHA loans are risky – that they “fall out” or get denied more often than other loans Is this actually true? And if so, how often do FHA loans fall through? Let’s analyze the data and demystify FHA loan fallout rates
What Does It Mean When a Loan “Falls Through”?
When we say a mortgage loan “fell through” or “fell out”, we mean it failed to close and fund as originally planned. The loan application was denied or rejected during the underwriting process before reaching the closing table.
This can happen with any mortgage product, whether it’s a conventional loan, FHA loan, or VA loan. The chances of fallout depend on the borrower’s financial profile, the property itself, and underwriting standards.
FHA Loan Fallout Rates in Context
In 2021, FHA loans had a fallout rate of 12.4%. For context, here are the closing rates for other common mortgage loan types in 2021:
- Conventional purchase loans: 80% closing rate
- FHA refinance loans: 65% closing rate
- FHA purchase loans: 78% closing rate
- VA refinance loans: 72% closing rate
As you can see, FHA purchase loans do have a slightly higher denial rate at 22% versus just 20% for conventional loans.
However, FHA loans also outperform conventional mortgages when it comes to closing refinances, with a 65% success rate versus 60% for conventional refis.
Overall, FHA loans aren’t necessarily riskier across the board. Their fallout rates are comparable for purchases and better for refinances.
Key Factors That Cause FHA Loans to Be Denied
While their fallout stats are similar, FHA loans face denials for some unique reasons tied to their program guidelines:
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Low appraisal: The FHA appraisal finds safety/condition issues or values the property below the purchase price.
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Minimum credit score: The borrower’s credit scores fall below 500, or 580 for the 3.5% down payment option.
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High debt-to-income ratio: The borrower’s total monthly debts are above 43% of their gross income.
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Unverifiable income: The lender can’t document the borrower’s job history or income sources.
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Ineligible property: The home doesn’t meet FHA occupancy and other requirements.
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Insufficient funds: The borrower lacks funds for the down payment and closing costs.
On the other hand, FHA loans are less prone to fallout due to low down payments or credit challenges, thanks to their flexibility in those areas.
Tips to Avoid FHA Loan Denial
As a buyer, you can take proactive steps to avoid the disappointment of an FHA loan fallout:
- Maintain good credit by paying all bills on time
- Keep debt low and pay down balances if possible
- Document income thoroughly and keep employment stable
- Save for a down payment and closing costs early
- Only make offers on FHA-eligible properties in good condition
- Research appraisal trends in the neighborhood
Being prepared both financially and with the proper home choice can significantly reduce your chances of denial.
What to Do If Your FHA Loan Is Denied
If your FHA loan does end up being rejected, don’t panic. You have options:
- Appeal the denial if you think there was a mistake
- Improve your financial profile and reapply in 6 months or more
- Adjust your home search to a lower price range
- Explore other down payment assistance programs
- Talk to your lender about alternatives like non-QM loans
It’s frustrarting when a loan falls through, but with persistence you can get back on the road to homeownership. Learning from the experience will only make your next application stronger.
The Takeaway: FHA Loans Aren’t Necessarily Riskier
While FHA loans do have slightly higher denial rates for purchases, they actually perform better than conventional loans for refinances. Across the board their fallout stats are comparable to other products.
The misconception that FHA loans are risky likely stems from their flexibility on credit and down payments. But for buyers who responsibly manage their finances, FHA loans remain a viable option.
No mortgage is guaranteed, but going in informed on FHA loan fallout trends and taking preventative steps can set you up for success. With reasonable expectations and the right preparation, an FHA loan can be the right fit to achieve your dreams of owning a home.
What Is Underwriting And How Does It Work?
Mortgage underwriting is the process of verifying and analyzing the financial information youâve provided to your lender.
The underwriting process happens when your lender verifies your income, assets, debt, credit and property. This information is needed to ensure youâre in a good position to take on the financial responsibilities of a mortgage and that itâs a good investment for the lender. In short, it helps your lender determine the risk of lending to you.
Underwriting occurs once youâve completed your mortgage application and all required documents are turned in for the underwriter to review. Requested documents may include:
- Bank statements
- W-2s and other tax documents
- Recent pay stubs
- Copies of forms of identification, like your driverâs license, military ID or Social Security card
- Letters of explanation or gift letters, when necessary
Underwriters evaluate the information from the above sources to determine your ability to handle debts, make mortgage payments and afford the closing costs and fees associated with the home purchase.
As you undergo the underwriting process, your loan will go through one or more of these steps:
- Conditional approval happens when all of your documents are turned in and undergoing review, and the underwriter feels that most of your information looks good. However, there are still a few conditions that must be met before your loan is approved.
- Approval occurs when everything has been verified by the underwriter and youâre cleared to close on your loan.
- Denial happens when the loan application is denied and youâre refused a mortgage. This may happen for several reasons, which weâll explore later.
Getting preapproved for a mortgage doesnât guarantee a future clear-to-close decision from the underwriter. This type of approval is sometimes based on basic information you provide and usually requires deeper verification of all information reviewed.Also, not all preapprovals are the same. The situation weâve described above with minimal financial checks is a prequalified approval, which is useful if you just want to get an idea of what you can afford â but we recommend all of our clients get a Verified Approval.
A Verified Approval involves pulling your credit report to get a look at your outstanding debt. In addition, we verify income and assets using documents like W-2s, 1099s, bank and investment account statements. A Verified Approval can help you make a confident offer on a home with a much better idea of what you can afford. In a competitive market, after a home buyer is preapproved for a mortgage, a solid next step is a Verified Approval. This shows sellers that you are a reliable and trustworthy buyer.
Your Credit Score Is Too Low
A low credit score might indicate that you may have trouble making on-time payments or handling the financial responsibilities of the loan.
Before applying for a mortgage, review your credit score and credit report and dispute any errors. If your credit score is low, you may want to work on increasing it before applying. If you have a qualifying credit score, make sure you donât do anything during the mortgage process to cause it to drop, like miss a payment or max out a credit card.
The Good and BAD of FHA Loans | NEW FHA Loan Requirements 2023
FAQ
How often is an FHA loan denied?
What will cause an FHA loan to fail?
Can an FHA loan be denied after pre-approval?
Why would an FHA loan fall through?
How long does an FHA loan last?
The most common term for an FHA loan is 30 years. A 15-year term is also available. 10- and 20-year loans may be offered too, so discuss your options with your lender. If you don’t have a lender yet, start by pre-qualifying with Zillow Home Loans; it only takes a few minutes and won’t impact your credit score.
What is the minimum down payment on an FHA loan?
The minimum down payment you’re required to make on an FHA loan is directly linked to your credit score. Your credit score is a number ranging from 300 – 850 that’s used to indicate your creditworthiness. An FHA loan requires a minimum 3.5% down payment for credit scores of 580 and higher.
How long does an FHA loan take to close?
FHA loans require an inspection and appraisal to make sure your new home conforms to FHA loan guidelines, which can have an impact on how long it takes to close. In August 2021, FHA loans took an average of 51 days to close, compared to 48 days for a conventional loan.
What are the requirements for an FHA loan?
FHA loans have a set of requirements you must meet in order to qualify for an FHA loan. These include: The home must be your primary residence. You must have a minimum credit score of 500 (though most lenders require 580+).