In previous articles, we discussed Pillar One (Credit) and Pillar Two (Income). The third pillar of FHA mortgage qualification is Assets.
Assets represent the funds available to complete your home purchase. The good news is that FHA financing is one of the most flexible mortgage programs available when it comes to down payment and asset requirements.
FHA Down Payment Requirements
One of the primary reasons FHA financing remains popular throughout Temecula Valley is the low down payment requirement.
Borrowers with qualifying credit scores may purchase a home with as little as 3.5% down. However, because Riverside County’s FHA loan limit is currently $690,000, some buyers may need a larger down payment if the purchase price exceeds what FHA will finance.
In addition to the down payment, borrowers should prepare for closing costs and prepaid expenses.
What Are Prepaids?
Prepaids are not lender fees. They are future housing expenses collected at closing. Also known as recurring costs.
Common prepaid items include:
- Homeowners insurance
- Property taxes
- Daily interest
- Initial escrow account deposits
- Mortgage insurance monthly premiums
- HOA fees, if applicable
These funds help establish your mortgage escrow account and ensure taxes and insurance are paid when due. These are commonly referred to as an escrow account or impound account. All FHA Loans require an impound account — property taxes, insurance, and mortgage insurance all encompassed into one total mortgage payment. Then the servicing lender pays these items as they become due during the life of the loan. So you make one total monthly payment and everything is disbursed for you, as it becomes due.
Who Can Pay Closing Costs?
FHA offers flexibility regarding who may contribute toward closing costs and prepaid expenses.
Funds may come from:
- The borrower
- Family gift funds
- Employer assistance programs
- Approved down payment assistance programs
- Seller contributions — max contributions apply
These concessions cannot be applied to any of the 3.5% down payment. Although, this flexibility can significantly reduce the amount of cash needed from the buyer. In these cases, the goal would be for the borrower to come in with just down payment only.
How Much Can a Seller Contribute?
Under FHA guidelines, sellers may contribute up to 6% of the purchase price toward the buyer’s closing costs, prepaid expenses, discount points, and other allowable costs. None of these concessions can be applied to the down payment.
In many cases, seller credits can substantially reduce the amount of money a buyer needs to bring to closing.
Asset Documentation and Seasoning
One of the most common questions involves “seasoning” funds.
Generally, lenders will review the most recent two months of bank statements to verify sufficient funds are available and to document the source of large deposits.
Any unusually large deposits may require explanation and supporting documentation. The objective is to establish a clear paper trail showing where funds originated.
Cash or mattress money is typically not acceptable.
Borrowed funds off of a credit card, friend, family are also a no-no.
Reserve Requirements
Unlike many conventional loan programs, FHA typically does not require reserve funds for a standard owner-occupied purchase transaction. In very unique cases of a manual underwrite, FHA may require 3 months reserves as a compensating factor. But these are very unique instances and typically don’t apply to most FHA Borrowers.
This means borrowers generally are not required to show several months of future mortgage payments remaining in savings after closing.
Gift Funds Requirements
FHA allows eligible family members to provide gift funds for down payment and closing costs.
To document gift funds, lenders typically require:
- A gift letter signed by donor and recipient
- Evidence of the donor’s ability to provide the funds, typically a bank statement is required from donor. This can be a sore subject
- Documentation showing the transfer of funds or wire from donor directly to escrow
Proper documentation is critical because all funds must be sourced and verified.
Anti-Money Laundering and SAR Requirements
Mortgage lenders are required to comply with Federal Anti-Money Laundering (AML) regulations and Suspicious Activity Report (SAR) requirements.
This is why lenders request bank statements, explanations for large deposits, and documentation supporting asset transfers. These requirements help verify that funds used in the transaction come from legitimate and documented sources.
While the paperwork can sometimes feel extensive, these safeguards protect both borrowers and the mortgage industry. It is important to explain this because almost all parties have resistance or push-back on these items. I felt compelled to explain who and what is driving this, not just an over-burdening lender or loan officer.
Final Thoughts
FHA financing offers tremendous flexibility when it comes to assets, down payments, gift funds, and seller contributions. Understanding how assets are reviewed can help buyers prepare documentation early and avoid delays during underwriting.
When Credit, Income, and Assets work together, FHA financing can provide a clear path to homeownership throughout Temecula Valley.
