In more detail
The government insures the lender against default, which is why FHA loans accept lower scores and smaller down payments. For years the minimum down payment has been 3.5% for scores of 580 or more and 10% for scores between 500 and 579. In exchange, borrowers pay mortgage insurance twice: an upfront premium (1.75% of the base loan, usually added to the loan) and an annual premium paid monthly, which on many loans lasts for the life of the loan. Loan amount limits depend on the county. Down payment minimums, limits and fees change, so check current terms.
Why it matters
An FHA loan can make buying possible years earlier, but the insurance makes it more expensive than a conventional loan for borrowers who qualify for both. Many owners later refinance into a conventional loan once they have enough equity to drop the insurance.
Example
A $300,000 home with 3.5% down ($10,500) gives a base loan of $289,500. The 1.75% upfront premium ($5,066.25) is financed, so the loan is $294,566.25; at 6.5% over 30 years the principal and interest payment is $1,861.86. An annual premium of 0.55% adds roughly $132.69 a month in the first year.
Common confusion
A VA loan is for eligible service members and veterans, needs no down payment and has no monthly mortgage insurance.