FHA loan: how it works + when to refinance out
Updated April 2026.
The thing most first-time FHA buyers miss at closing: on most loans originated since June 2013, the mortgage insurance premium runs for the entire life of the loan. Conventional PMI has two cancellation paths under the Homeowners Protection Act — borrower-requested at 80% actual balance, automatic termination on the scheduled 78% date. FHA's MIP usually doesn't follow either of those. The only way out is refinancing into a conventional loan or paying off entirely.
That's the trade for getting in with 3.5% down and a 580 credit score — terms a conventional lender wouldn't touch. The Federal Housing Administration insures the loan (HUD program details) so private lenders can say yes. For most FHA borrowers, the financial endgame is refinancing out once equity crosses 20%. Run the math on your specific FHA loan — including MIP cost over its full lifetime — using the FHA loan payoff calculator.
Who FHA actually works for
- Credit score 580+ for 3.5% down (the federal floor published by HUD). In practice, lender overlays often push that to 620+ — your actual approval threshold depends on the specific lender.
- Credit score 500-579 requires 10% down.
- Debt-to-income (DTI) ratio typically must be under 43% — though it can go to 50% with compensating factors.
- 2 years of steady employment in the same field (gaps acceptable for school, military, family).
- Loan limits vary by county. 2026: $541,287 floor in most areas, up to $1,249,125 ceiling in high-cost areas (Hawaii, California, NYC metro)1.
- Property must be primary residence— FHA doesn't fund investment properties or vacation homes.
The two MIP charges that show up on your statement
FHA charges mortgage insurance in two parts. Both inflate your true cost vs. the headline rate:
- Upfront MIP (UFMIP)3: 1.75% of the loan amount, paid at closing. Usually financed into the loan rather than paid cash. On a $280k loan: $4,900 added to principal.
- Annual MIP2: 0.15-0.75% of the loan balance per year, paid as part of the monthly mortgage payment. On a $280k loan with 3.5% down: ~0.55% = $1,540/year = ~$128/month. Runs for the life of the loan in most cases.
When refinancing out makes sense
For most FHA borrowers, the financial endgame is refinancing into a conventional loan once equity crosses 20%. The reason: dropping the annual MIP — usually a meaningful four-figure number per year on a typical loan, depending on size and rate — generally outweighs the closing costs within 3-5 years.
The math: (closing costs of $6-12k) ÷ (annual MIP savings + any rate improvement) = years to break even. If you'll stay longer than that, refinance wins.
To accelerate: aggressive principal payments shrink the timeline to 80% LTV. Each year of extra principal moves you closer to the refinance exit and reduces the annual MIP basis.
When FHA is the wrong tool
- Credit score 700+, 5%+ down available.Conventional with PMI usually beats FHA. Conventional PMI has two cancellation paths under the Homeowners Protection Act — borrower-requested at 80% actual balance, automatic termination on the scheduled 78% date — while FHA MIP usually doesn't follow either.
- Investment property or second home. FHA only funds primary residences.
- Loan amount above county FHA limit. Use a conforming or jumbo loan instead.
- You plan to refinance out within 2 years. Closing costs eat the savings; conventional with the lower initial cost makes more sense.
FHA is a real product for the specific credit-and-down-payment combination it was designed for4. The borrowers who get hurt by it are the ones who could've qualified for conventional with PMI but chose FHA for a marginally lower headline rate without thinking about the lifetime MIP. Treat FHA as a 3-to-5-year stepping stone, not a 30-year fixture.
FAQ
Who should choose an FHA loan?
Buyers with credit scores between 580-680 (especially if you can put down only 3.5%), buyers with limited cash for down payment, and buyers in loan-amount ranges where FHA loan limits work (varies by county — $541,287 floor / $1,249,125 ceiling in 2026). If you have a 700+ credit score and 5%+ down, conventional usually beats FHA.
What are FHA credit score requirements?
Federally, the FHA requires 580+ for 3.5% down, or 500-579 for 10% down. In practice, most lenders impose stricter overlays — typically 620+ even for FHA. If your score is borderline, shop multiple lenders since their overlays vary.
Does FHA mortgage insurance ever go away?
On most FHA loans originated after June 2013, MIP runs for the life of the loan regardless of equity. The only exception: if your original LTV was below 90% (you put down 10%+), MIP runs for 11 years. Otherwise, the only way to drop MIP is to refinance into a conventional loan once you have 20% equity.
When should I refinance from FHA to conventional?
Once you have 20% equity (LTV at 80%) AND your credit score has reached at least 680. The MIP savings (typically $1,500-3,500/year on a $300k loan) usually outweigh closing costs within 3-5 years. If you'll stay in the home longer than that, refi wins.
- 1. HUD, 2026 FHA Loan Limits (Mortgagee Letter 2025-23) — primary source for the $541,287 floor and $1,249,125 ceiling. ↩
- 2. HUD, FHA Section 203(b) program details — canonical FHA loan program reference. ↩
- 3. HUD, Mortgage Insurance Premiums (MIP) schedule — current MIP rates by loan term and LTV. ↩
- 4. Consumer Financial Protection Bureau, FHA loan basics — consumer-perspective overview. ↩
Related
- FHA loan payoff calculator — run your specific numbers including MIP over time.
- Refinance vs. prepay — the math on whether to refi out of MIP or just throw extra at principal.
- Lump sum vs. extra monthly — if you have a windfall, how to deploy it against an FHA loan.
Written by James L. Wu. FHA program rules and county loan limits change every year — the numbers above are accurate as of writing, but always confirm with HUD and your specific lender before treating them as final. See the editorial policy for sourcing.