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A mortgage on which the lender is insured against loss by the Federal Housing Administration, with the borrower paying the mortgage insurance premium. What FHA Does: By insuring lenders against loss in the event that borrowers default on their loans, FHA encourages lenders to make loans that they might otherwise view as too risky. FHA began operations in the depths of the depression of the 1930s when lenders had stopped making new loans altogether because a sizeable proportion of existing loans were in default. As the country worked its way out of the depression, the FHA settled into the principal role it has today: helping a segment of the low-and-moderate-income population become homeowners who otherwise might not make it because they have shaky credit, or can't come up with the cash needed for the down payment.Some FHA programs are subsidized. For example, a special program of mortgage insurance for members of the armed forces is subsidized by the armed forces, while special programs for older declining urban areas and for displaced households are partially subsidized by FHA through insurance premiums that don't cover losses. FHA loans are subject to size limits, which vary from state to state and county to county. In 2003, the basic limit was $154,896 but it ranged up to $280,749 in high-cost areas. Who Should Take an FHA? FHA loans are for borrowers who can't meet a 5% down payment requirement and have poor credit. Borrowers who can put 10% or more down and have good credit will do better with a conventional loan. The best loan type for borrowers who fall in the middle depends on the specifics of the case. The great appeal of the FHA program is that it allows 1% down. Private mortgage insurers, in contrast, require 5% down on most loans and only allow 3% down on special programs. FHA is also liberal in allowing gifts to be used for paying settlement costs. Down Payment/Home Seller Contributions. FHA borrowers may also have weaker credit than private insurers accept. FHA allows higher ratios of expense to income, is more tolerant of existing debt and will allow the income of co-borrowers who don't live in the house to count fully in measuring income adequacy. It is also quite forgiving about bad credit. FHA loans are generally available in the market at about the same interest rate and points as conventional loans with the same term. There may be a difference in mortgage insurance premiums, however. On conventional loans, the insurance premium depends on the down payment. With 5% down, the premium on a 30-year FRM is about the same as on an FHA. With 10% or more down, the premium on conventional loans is lower. Borrowers who are unable to make a down payment but have strong credit have another option. Conventional loans are available with no down payment and no mortgage insurance, but borrowers pay a higher interest rate. Cash-poor borrowers with good credit should explore this alternative to an FHA. Veterans also have the option of a VA-guaranteed loan. FHA Loans Are Assumable: Both FHA and VA loans have the advantage that they can be assumed by a qualified buyer. If a house is to be sold with an FHA or VA mortgage carrying a rate well below the current market, the seller can enhance its marketability by allowing the buyer to assume the old mortgage. Conventional loans carry due-on-sale clauses that require the loan to be repaid when the house is sold.