December 20, 2012
FHA loan rules state that a borrower must provide a minimum down payment–3.5%–as a requirement of FHA loan approval for a single-family property. For some borrowers, that down payment takes up a good amount of the available cash on hand.
What can a borrower do when he or she can afford a down payment, but may struggle to come up with some of the cash needed for closing costs, pre-paid expenses or other costs of an FHA loan?
The FHA has a rule stating that the borrower can have assistance in this area in the form of a third party contribution. FHA loan rules state that the seller, “or third party” may contribute, “up to six percent of the lesser of the property’s sales price or the appraised value toward the buyer’s closing costs, prepaid expenses, discount points and other financing concessions.”
That six percent contribution may also include third party payment for permanent and temporary interest rate buydowns, “and other payment supplements” according to the FHA rules. It may also be used to pay the Up Front Mortgage Insurance Premium or what the FHA calls “mortgage payment protection insurance.”
The six percent figure is an important one to note–contributions over six percent as described above are considered something the FHA terms “inducements to purchase” and the rules of single-family FHA home loans state that a loan can be reduced by the exact dollar amount of that inducement to purchase.
One area that is not included in all this is the payment of a real estate commission–if the seller pays such real estate commissions or fees, that dollar amount is NOT counted toward the six percent.
Finally, these contributions can’t always be counted on; borrowers in the planning stages should not assume that a seller will definitely kick in money towards the six percent as a way to sweeten the deal. The best policy when planning for a new home purchase is to budget and save the cash for these expenses wherever possible. If a borrower has a third party willing to contribute and knows this ahead of time, that’s one thing; counting on the good graces of a house seller you don’t know is not a sound financial plan.
In all of this you will notice the FHA does not mention down payments–the borrower is responsible for the down payment and cannot use a six percent contribution towards it. The six percent contributions by a third party or the seller must only be used in the ways described above or as the FHA might allow. To get more information on what’s permitted, contact the FHA directly at 1-800 CALL FHA.
Do you have questions about how FHA loans work? Ask us in the comments section.
Joe Wallace has been specializing in military and personal finance topics since 1995. His work has appeared on Air Force Television News, The Pentagon Channel, ABC and a variety of print and online publications. He is a 13-year Air Force veteran and a member of the Air Force Public Affairs Alumni Association. He was Managing editor for www.valoans.com for (8) years and is currently the Associate Editor for FHANewsblog.com.
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