FHA loan refinances: Requirements, pros, and cons

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Homeowners often refinance their mortgage to reduce their interest rate, save money on their monthly payment, access their home equity, or change their loan terms.¹ If you have an FHA loan, you have multiple options for refinancing your mortgage.² Learn more about FHA refinance options, requirements, and pros and cons.

What is an FHA loan?

An FHA loan is a mortgage loan backed by the Federal Housing Administration (FHA). Government-backed loans, including FHA loans, offer some advantages over conventional loans.

Thanks to less-stringent requirements, broadly speaking, an FHA loan is often easier for borrowers with a higher debt-to-income ratio (DTI) and a lower credit score to obtain.

How does an FHA refinance work?

When you refinance your mortgage, you’re swapping out your existing home loan for a new one – that likely features different loan conditions. This requires qualifying for the new mortgage in a process that’s not too dissimilar from when you bought your home.

As part of your qualification process, your lender may check the following:

• Credit score and report: Your credit score gives the lender a look at how you’ve handled your debt over time.
• Capacity to handle payments: The lender may use the information on your credit report to calculate both your housing expense ratio (HTI) and total DTI to make sure you can handle the payment.
• Collateral evaluation: This involves a third party putting a value on your home and making sure it meets basic safety standards according to FHA guidelines.
• Cash available: In the context of a refinance, this can mean looking at your bank statements to make sure that you have enough cash to cover a certain number of payments if you lose income for a period of time. You will also need to be able to pay for closing costs on the loan.

While the four C’s make up the basis of mortgage underwriting, you’ll notice we used the word “may” in reference to an FHA refinance.

The FHA has some requirements that may be waived if you’re going from one FHA loan to another. For example, if there’s a net tangible benefit, like a lower interest rate or payment, FHA often waives the need for an appraisal and income check because the lower payment makes you more likely to pay off your loan without incident.

It should be noted that even if the FHA doesn’t require something, lenders can always set their own policies based on their risk tolerance.

How do I know if an FHA refinance is right for me?

The first thing to consider is your goals. A refinance might be for you if you’re a homeowner looking to lower your interest rate or monthly payment, change your loan type and repayment term, or tap into your home equity. The Rocket Mortgage refinance calculator can come in handy here.

But even if refinancing is right, you next need to consider whether an FHA loan is the right option. On the plus side, there’s some flexibility around not needing very much equity for a rate-and-term refinance. You can also qualify with higher DTI ratios and lower credit scores.

On the other hand, FHA loans come with both upfront and monthly mortgage insurance premiums (MIP). FHA loans also have loan limits. If you have 10% equity or more after closing your new loan, the monthly premiums last 11 years. Otherwise, they stick around for the life of the loan.

4 FHA loan refinance options

Before we get down to the nitty-gritty, here’s a quick look at some of the most common refinancing options:

1. FHA Simple refinance

An FHA Simple refinance is for homeowners with an FHA loan. As the name implies, this option allows homeowners to refinance or switch from an ARM to a fixed-rate loan without borrowing equity. In other words, it's a rate-and-term refinance for FHA loans.

FHA Simple refinance requirements

Typically, a credit score of 580 (500 with 10% equity) is necessary to qualify for an FHA Simple refinance. Payment history also is considered, and all your mortgage payments from the past 6 months must be up to date. A home appraisal is required to determine whether your home’s value has changed.

Pros of an FHA simple refinance

• The opportunity to finance closing costs: By lumping your closing costs into the overall loan amount, the upfront costs of refinancing are lower.
• The opportunity to adjust your interest rate: This could mean obtaining a lower rate or switching from an ARM to a fixed-rate loan.
• The opportunity to remove the co-borrower from the mortgage: If you purchased your home with another person who no longer needs to be on the loan, refinancing can offer a chance to remove the co-borrower.

Cons of an FHA simple refinance

• Borrowers can’t take money out. The FHA Simple Refinance option doesn’t come with a cash-out feature, so this isn’t the best option if you’re looking to tap into home equity.
• Borrowers will have to get a home appraisal. You’ll be required to get an appraisal for the purpose of determining your home’s value. This can take time and money and extend the refinancing process.

2. FHA Streamline refinance

Much like the Simple refinance option, the FHA Streamline refinance is available to homeowners with an FHA loan who want to reduce their interest rate and monthly payments.

In contrast to the Simple refinance, the Streamline refinance may not require an appraisal or an in-depth credit inquiry. As a result, the process should move more quickly.

FHA Streamline refinance requirements

To qualify for an FHA Streamline refinance, you’ll need an existing FHA loan with no outstanding monthly mortgage payments. You must not be within 210 days of the closing date of your original home loan.

Additionally, you’ll have to meet these conditions for your mortgage payments:

• No payments have been more than 30 days late in the past 6 months.
• No more than one payment has been more than 30 days late within the past 12 months.
• At least 6 monthly payments have been made on your existing mortgage.

FHA Streamline refinances also have a tangible net benefit requirement, which refers to the financial advantage gained by the borrower from the refinance. This means that for the FHA to approve the refinance, it must be quantifiably beneficial to you as the borrower.

For example, if you're reducing the length of your loan repayment term, the new interest rate can't exceed the rate on your current mortgage. The new monthly mortgage payment also can't exceed the old payment by more than $50 per month.

Pros of an FHA Streamline refinance

• Less strict mortgage lender requirements: Because the refinance is “streamlined,” this process requires fewer in-depth credit and income checks. In general, your lender may assume that if you’re able to pay your current monthly payment, you’ll probably be able to pay the new one.
• No home appraisal requirement: Not having to wait for the home appraisal allows you to close on your refinance faster and saves money.
• An option for homeowners who owe more than their home is worth: Even if you owe more on your mortgage than your home’s value, you can still take advantage of this refinance program.

Cons of an FHA Streamline refinance

• Closing costs that must be paid upfront: Unlike a Simple Refinance, where you can lump closing costs into the loan, an FHA Streamline Refinance requires the borrower to pay closing costs upfront. These costs are typically 3% – 6% of the loan amount.
• A limited cash-out opportunity: This refinancing option allows borrowers to withdraw up to $500 from their home equity.
• Mortgage insurance premiums (MIP): The FHA MIP is required on all FHA loans. If you’re looking to get away from an MIP, refinancing into a conventional loan might be your best option.

3. FHA cash-out refinance

If you’re interested in borrowing money to consolidate high-interest debts, renovate or repair your home, or pay major expenses, an FHA cash-out refinance could help.

A cash-out refinance is taking out a new mortgage based on your home's current value. You pay off your current mortgage and can use the difference for anything you like. You repay what you borrowed as part of your new FHA mortgage.

An FHA cash-out refinance is an option for those who bought their home with a non-FHA loan. For example, a homeowner with a conventional loan could refinance into an FHA cash-out refinance because the lower credit-score requirements make it easier to qualify.

FHA cash-out refinance requirements

To qualify for this type of refinance, you’ll need:

• A minimum credit score of 620 (580 for debt consolidation)
• A DTI at or below 57%
• No late mortgage payments during the last 6 months
• Residency in your house for at least 12 months

In addition to these requirements, LTV limits are important to keep in mind. These limits control how much equity you need to keep in your home compared with its current value. With a cash-out refi, your LTV ratio can’t exceed 80% of your home’s value – meaning you’ll need to keep at least 20% equity in your home.

Pros of an FHA cash-out refinance

• The potential for lower monthly payments: In addition to tapping into home equity, a cash-out refi could mean obtaining a better interest rate, which could lower your monthly mortgage payments.
• A lump-sum payment you can use for almost anything: From home repairs to debt consolidation and emergency funds, the cash you receive from a cash-out refinance can go toward many projects.

Cons of an FHA cash-out refinance

• An increased loan amount: Cashing out your home equity means taking on additional debt in the form of a higher loan amount. It’s important to consider both the short- and long-term impacts of this decision to determine if it makes sense for you.
• Required MIP payments: If you’re refinancing from a conventional loan into an FHA loan with an FHA cash-out refinance, you’ll be required to pay a mortgage insurance premium.
• A required home appraisal: Unlike a Streamline Refinance, a cash-out refi requires a home appraisal to determine the precise value of the home.

4. FHA 203(k) refinance

Also known as a mortgage rehabilitation or renovation loan, an FHA 203(k) refinance loan allows homeowners to roll home improvement and renovation costs into their home loan.

Two options are available: the limited 203(k) refinance and the standard 203(k) refinance.

• Limited 203(k) refinance: This refinance option lets you borrow up to $75,000 toward qualifying home improvements with no minimum spend. The limited FHA 203(k) refinance only covers uncomplicated surface-level repairs, such as new flooring.
• Standard 203(k) refinance: This FHA 203(k) refinance has no price cap but requires the homeowner to spend at least $5,000 on home projects. The standard option covers significant home improvements, such as structural repairs.

Rocket Mortgage currently doesn’t offer FHA 203(k) loans.

FHA 203(k) refinance requirements

As with a cash-out refinance, you don’t have to begin with an FHA loan to take advantage of an FHA 203(k) refinance. Homeowners with any loan type can leverage this option but will need to meet specific requirements, such as a minimum credit score and a maximum DTI.

A home appraisal is required for an FHA 203(k) refinance. It's important to note that the FHA has specific rules regarding the types of home improvements this refinance option covers.

Pros of an FHA 203(k) refinance

• Less-strict credit score requirements: FHA loans often have less-stringent requirements than other types of loans, making it easier for borrowers to get the financing they need when they need it.
• Lower interest rates compared with other home improvement loans: If you have important home repairs and remodels planned, it will likely cost you less in the long run to finance them with an FHA 203(k) loan versus an alternative home improvement loan. You could also refinance into a loan with a shorter term and save money on interest. If you have an adjustable-rate mortgage (ARM) you could refinance into a fixed-rate mortgage and lock in a more predictable mortgage payment.

Cons of an FHA 203(k) refinance

• The approval process can be longer than with other types of refinances. With many limiting parameters, the process can take more time, and borrowers may experience delays.
• Borrowers can’t use this option for investment properties. Unlike some other refinancing options, the FHA 203(k) refinance can only be used for primary residences.
• Borrowers might have to hire a HUD consultant. Depending on the type of repairs you have planned, the conditions of your loan might require you to consult someone from the Department of Housing and Urban Development (HUD) for approval.

FAQ

Now it’s time to look at some ways that homeowners can go about refinancing their existing loan into an FHA loan and vice versa.

Can I refinance a conventional loan into an FHA loan?

FHA Simple Refinances and FHA Streamline Refinances are only available to homeowners with an existing FHA loan. But both the FHA cash-out refinance and FHA 203(k) refinance options are available to homeowners with all loan types. You might choose to do this if you need DTI flexibility to qualify for the loan amount.

Can I refinance an FHA loan into a conventional loan?

It’s possible to refinance an FHA loan into a conventional loan. Homeowners may choose to do this to avoid paying MIP, which all FHA loans require for at least 11 years.

With a conventional loan, a different type of mortgage insurance called private mortgage insurance (PMI) is required, but only until you have 20% equity in your home. When seeking a new loan, remember to consider the annual percentage rate (APR) which gives a full picture of the costs of borrowing money.

How soon can I refinance an FHA loan?

The specific amount of time you’re required to live in a home before refinancing varies among the different types of home loans.

With both an FHA Simple and FHA Streamline refinance, you’ll need to have lived in the home for 6 months to qualify. Meanwhile, an FHA cash-out refinance requires you to occupy the home for at least 12 months.

The bottom line: FHA refinances could benefit you

Refinancing with an FHA loan could allow you to lower your rate, change your term, or access equity with more flexible guidelines. An FHA Streamline may even allow you to lower your rate while avoiding credit and income checks and the appraisal.

If you’re interested in capitalizing on all the benefits of an FHA refinance, you have several options. Consider your short-term and long-term goals alongside the various pros and cons of each refinance program so you’ll choose the one that’s best for you.

Are you ready for an FHA refinance or another refinancing option? Start the approval process today to see how you qualify.

¹ Refinancing may increase finance charges over the life of the loan.

² Rocket Mortgage is not acting on behalf of FHA or HUD

³ To qualify for this offer, you must meet all standard FHA eligibility requirements. In addition, your total mortgage payment, including taxes and insurance, cannot exceed 38% of your income, your debt-to-income (DTI) ratio cannot exceed 45%, and you must have 12 months of verifiable housing history immediately prior to your application, no late payments 30 days or greater in the last 12-months, and no derogatory marks on your credit report. Not available on jumbo loans. Asset statements may be needed, no more than 1 day of non-sufficient fund fees are allowed in the most recent 2 months prior to application. Additional restrictions/conditions may apply.

⁴ The FHA Streamline program may have stricter requirements in some states. In order to qualify for the FHA Streamline program, an immediate .5% minimum reduction in interest and mortgage insurance premium is required. Some states may require an appraisal.

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