Mortgage Basics
Everything you need to know before buying a home — from credit requirements to closing day.
Key Takeaways
- Conventional loans require 620+ credit, but VA and USDA loans offer 0% down payment options
- Your DTI ratio (debt payments ÷ income) is just as important as your credit score for mortgage approval
- Putting 20% down avoids PMI, which can cost $100-$400/month on a typical loan
- Closing costs run 2-5% of the loan amount — always get quotes from multiple lenders
- Get pre-approved (not just pre-qualified) before house hunting to strengthen your offers
What Credit Score Do You Need?
Different loan types have different credit requirements. Your score determines not just approval, but also your interest rate and terms. Below is a breakdown of the major loan programs and what they expect from borrowers.
Conventional
Minimum Score
620
Down Payment
3%+
PMI / Insurance
Required if <20% down
Best For
Good credit borrowers
Typical Rate
~6.8% (30-yr)
FHA
Minimum Score
580 (3.5% down) or 500 (10% down)
Down Payment
3.5%+
PMI / Insurance
MIP for life if <10% down (loans after June 3, 2013)
Best For
Lower credit scores
Typical Rate
~6.4%
VA
Minimum Score
No minimum (620+ typical)
Down Payment
0%
PMI / Insurance
None (funding fee instead)
Best For
Veterans & active military
Typical Rate
~6.3%
USDA
Minimum Score
640 (auto) / 580+ (manual)
Down Payment
0%
PMI / Insurance
Guarantee fee
Best For
Rural/suburban buyers
Typical Rate
~6.4%
Jumbo
Minimum Score
700+
Down Payment
10-20%
PMI / Insurance
Varies by lender
Best For
High-value properties
Typical Rate
~6.9%
A Conventional Loan typically requires the highest credit score (620+), while an FHA Loan is more accessible for borrowers with lower scores. If you're eligible, a VA Loan offers the most flexibility with no official minimum score requirement.
Recent Policy Change
In November 2025, Fannie Mae eliminated the minimum credit score requirement for conventional loans processed through its Desktop Underwriter (DU) automated system. Instead of a hard cutoff, DU now assesses borrower risk using a broader set of factors including income stability, reserves, and overall creditworthiness. Note: individual lenders may still set their own minimum score requirements, and manually underwritten loans maintain separate guidelines.
Understanding DTI (Debt-to-Income Ratio)
Your DTI (Debt-to-Income Ratio) is one of the most important numbers in the mortgage approval process. It tells lenders how much of your income is already committed to debt payments and helps them determine how much more you can safely borrow.
Front-End DTI
Also called the “housing ratio,” this measures only your housing costs relative to your gross monthly income.
Formula
Monthly Housing Costs ÷ Gross Monthly Income
Target
28% or below
Housing costs include your mortgage payment (principal + interest), property taxes, homeowner's insurance, and any HOA fees.
Back-End DTI
This is the number lenders focus on most. It includes all your monthly debt obligations, not just housing.
Formula
All Monthly Debts ÷ Gross Monthly Income
Target
36–43% (varies by loan type)
Includes housing costs plus car payments, student loans, credit card minimums, personal loans, child support, and any other recurring debt.
DTI Calculator
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DTI Limits by Loan Type
| Loan Type | Front-End | Back-End | Notes |
|---|---|---|---|
| Conventional (manual) | 28% | 36% | Up to 45% with compensating factors |
| Conventional (automated/DU) | — | Up to 50% | Desktop Underwriter may approve higher DTI |
| FHA | 31% | 43% | Up to 50-55% with compensating factors |
| VA | — | 41% | Higher allowed with residual income |
Worked Example
Gross Monthly Income: $8,000
Front-End DTI
28.0%
$2,240 ÷ $8,000
Back-End DTI
33.75%
$2,700 ÷ $8,000
This borrower has a front-end DTI of exactly 28% and a back-end DTI of 33.75% — both well within conventional loan guidelines. They would likely qualify for most loan types.
Understanding LTV (Loan-to-Value Ratio)
Your LTV ratio is one of the most important metrics lenders use when evaluating your mortgage application. It compares the size of your loan to the value of the property and directly affects your interest rate, whether you'll pay PMI, and which loan programs you qualify for.
Formula
Loan Amount ÷ Property Value × 100 = LTV%
Key Insight: How “Property Value” Is Determined
Lenders use the lower of the purchase price or the appraised value when calculating LTV. If you agree to buy a home for $400,000 but the appraisal comes in at $380,000, the lender uses $380,000 — which means your LTV will be higher than you expected, potentially requiring PMI.
LTV Tiers and Their Impact
| LTV Ratio | PMI Required | Rate Impact | Notes |
|---|---|---|---|
| 80% or below | No | Best rates | 20%+ down payment; no PMI needed |
| 80.01%–95% | Yes | Slightly higher | PMI required on conventional loans |
| 95%–96.5% | Yes | Higher | Maximum for most conventional and FHA |
| 97% | Yes | Highest conventional | Some first-time buyer programs only |
| 100% | Fee instead | Competitive | VA and USDA loans (0% down) |
What Is PMI (Private Mortgage Insurance)?
PMI is insurance that protects the lender — not you — if you default on your mortgage. It's required on conventional loans when your down payment is less than 20% (i.e., your LTV is above 80%). While it adds to your monthly payment, PMI makes homeownership accessible to borrowers who haven't saved a full 20% down payment.
How Much Does PMI Cost?
PMI typically costs between 0.3% and 1.5% of the original loan amount per year. The exact rate depends on your credit score, down payment amount, and loan type. Higher credit scores and larger down payments result in lower PMI rates.
Worked Example
Monthly PMI Payment
~$219/month
$350,000 × 0.75% ÷ 12
How to Remove PMI
Unlike the mortgage itself, PMI doesn't last forever on conventional loans. Here are four ways to eliminate it:
Request Removal at 80% LTV
Once your loan balance reaches 80% of the original property value, you can contact your lender and request PMI cancellation. You'll need a good payment history (no late payments in the past 12–24 months) and may need to prove no second liens exist.
Automatic Termination at 78% LTV
Under the Homeowners Protection Act, your lender is legally required to automatically cancel PMI when your loan balance reaches 78% of the original property value — as long as you're current on payments.
Refinance When Equity Reaches 20%+
If your home has appreciated or you've paid down enough principal, refinancing into a new loan with 20%+ equity eliminates PMI from the start. Compare refinancing costs against your remaining PMI payments to see if it makes sense.
Get a New Appraisal
If your home's value has increased significantly (through market appreciation or improvements), a new appraisal can show that your LTV has dropped below 80%. Your lender may require you to pay for the appraisal (typically $300–$600).
FHA Loan Difference: MIP
FHA loans use Mortgage Insurance Premium (MIP) instead of PMI, and the rules are different. If you put down less than 10%, MIP lasts for the entire life of the loan (for loans originated after June 3, 2013) — it never goes away unless you refinance into a conventional loan. With 10% or more down, MIP can be removed after 11 years. This is one of the biggest trade-offs of choosing an FHA loan over a conventional loan.
APR vs. Interest Rate
Your Interest Rate determines your monthly mortgage payment — it's the cost the lender charges you to borrow money. Your APR, on the other hand, shows the total annual cost of the loan including fees, points, and other charges. Two loans with the same interest rate can have very different APRs depending on the fees involved, so APR is the better number for comparing offers side by side.
Loan Comparison: Rate vs. APR Trade-offs
| Feature | Loan A | Loan B |
|---|---|---|
| Interest Rate | 6.75% | 7.00% |
| APR | 7.15% | 7.10% |
| Origination Fee | $4,000 | $1,500 |
| Points | 1.0 ($3,500) | 0 |
| Monthly Payment | $2,270 | $2,329 |
| Total Cost (30yr) | $817,200 | $838,440 |
| Verdict | Lower monthly, higher upfront | Higher monthly, lower upfront |
What's Included in APR?
The APR bundles the interest rate together with several additional costs so you can see the true annual cost of the loan:
- Origination fees
- Discount points
- Mortgage insurance premiums
- Closing costs rolled into the loan
- Broker fees
Should You Buy Discount Points?
Discount Points are upfront fees you pay to your lender at closing in exchange for a lower interest rate. Each point costs 1% of your loan amount and typically reduces your rate by about 0.25 percentage points. Whether buying points makes sense depends on how long you plan to keep the loan.
Formula
1 Point = 1% of Loan Amount = ~0.25% Rate Reduction
Worked Example
Break-Even Point
~62 months (~5.2 years)
$8,000 ÷ $130/month ≈ 62 months
When Points Make Sense
- You plan to stay in the home for 5+ years
- You have extra cash that isn’t needed for reserves or emergencies
- You want long-term rate certainty and lower monthly payments
When to Skip Points
- You’re planning to move or refinance within a few years
- Cash is tight for your down payment and closing costs
- Rates may drop soon — you can refinance later without losing upfront money
Pre-Approval vs. Pre-Qualification
Before you start house hunting, it's essential to understand the difference between pre-qualification and pre-approval. While they sound similar, they carry very different weight with sellers and lenders. One is a rough estimate; the other is a verified commitment that can make or break your offer in a competitive market.
Side-by-Side Comparison
| Aspect | Pre-Qualification | Pre-Approval ✓ |
|---|---|---|
| What it is | Quick estimate of borrowing power | Formal commitment valid 60-90 days |
| Documentation | Self-reported income & debts | Full docs: W-2s, pay stubs, bank statements, tax returns |
| Credit check | Soft pull (no score impact) | Hard pull (3-5 point impact) |
| Time required | Minutes | Days to weeks |
| Seller weight | Weak — just an estimate | Strong — shows you're serious |
| Best for | Early planning & budgeting | Making competitive offers |
Why Pre-Approval Matters in Competitive Markets
In hot housing markets, multiple buyers often compete for the same property. A pre-approval letter signals to the seller that a lender has already reviewed your finances and is willing to back your purchase. It separates you from buyers who only have a pre-qualification — an unverified estimate that could fall through during underwriting.
Keep in mind that pre-approval involves a Hard Inquiry, which can lower your credit score by 3–5 points. However, if you rate-shop multiple lenders within a 14–45 day window, all mortgage inquiries count as a single inquiry on your credit report. This means you can (and should) compare offers without worrying about extra damage to your score.
Closing Costs Breakdown
Beyond your down payment, you'll need to budget for closing costs — fees charged by lenders, attorneys, title companies, and government agencies to finalize your mortgage. These typically run 2–5% of the loan amount and are due on closing day. Understanding each line item helps you negotiate and avoid surprises.
Common Closing Cost Items
| Category | Typical Range | Notes |
|---|---|---|
| Origination fee | 0.5%–1% | Lender's fee for processing the loan |
| Appraisal | $300–$600 | Required to verify property value |
| Home inspection | $300–$500 | Optional but highly recommended |
| Title search & insurance | $1,000–$3,000 | Protects against ownership disputes |
| Attorney/settlement | $500–$1,500 | Required in some states |
| Underwriting | $300–$750 | Lender's fee for evaluating your application |
| Recording fees | $50–$250 | County/municipal filing fees |
| Prepaid items | $1,000–$3,000+ | Prepaid interest, insurance, taxes |
| Escrow deposits | $500–$2,000+ | Initial tax and insurance reserves |
Worked Example
Low Estimate (2%)
$7,000
$350,000 × 2%
High Estimate (5%)
$17,500
$350,000 × 5%
On a $350,000 loan, you should budget $7,000–$17,500 for closing costs in addition to your down payment. The exact amount depends on your location, lender, and the specific services required.
Part of your closing costs will fund an Escrow account — a reserve held by your lender for property taxes and homeowners insurance. Your lender typically collects 2–6 months of these expenses upfront to ensure the account has a sufficient buffer from day one.
Types of Mortgages Explained
Choosing the right mortgage type is one of the most impactful financial decisions you'll make. Each loan program has different eligibility requirements, down payment minimums, and trade-offs. Here's a breakdown of the six most common mortgage types to help you find the best fit.
Fixed-Rate Mortgage
The most popular mortgage in America. Your interest rate stays the same for the entire 30-year loan term, giving you completely predictable monthly payments.
Typical Rate
~6.89%
Best For
Long-term homeowners who value payment stability
- Interest rate never changes for the life of the loan
- Predictable monthly principal & interest payments
- Higher initial rate compared to ARM options
- Available in 15-year and 20-year terms as well
ARM
The rate is fixed for an initial period (typically 5, 7, or 10 years), then adjusts annually based on a market index. A 5/1 ARM means the rate is fixed for 5 years, then adjusts every 1 year.
Typical Rate
~6.13% (5/1 ARM)
Best For
Short-term stays (< 7 years) or buyers expecting rates to drop
- Lower initial rate than fixed-rate mortgages
- Rate caps protect against extreme increases
- Periodic cap: rate can't rise more than 2% per adjustment
- Lifetime cap: rate can't rise more than 5% over the life of the loan
FHA Loan
Backed by the Federal Housing Administration, FHA loans are designed for borrowers with lower credit scores or smaller down payments. They are a popular choice for first-time homebuyers.
Typical Rate
~6.38%
Best For
First-time buyers with lower credit scores (580+)
- Minimum credit score of 580 with 3.5% down payment
- Score as low as 500 with 10% down payment
- More lenient DTI requirements (up to 50-55%)
- Mortgage Insurance Premium (MIP) required — lasts for the life of the loan if < 10% down
VA Loan
Guaranteed by the U.S. Department of Veterans Affairs, VA loans offer some of the best terms available. They are exclusively for veterans, active-duty service members, and eligible surviving spouses.
Typical Rate
~6.29%
Best For
Eligible veterans and active-duty military
- No down payment required (100% financing)
- No PMI or mortgage insurance
- Competitive interest rates — often the lowest available
- VA funding fee of 1.25%–3.3% (can be rolled into the loan)
USDA Loan
Backed by the U.S. Department of Agriculture, USDA loans help buyers in eligible rural and suburban areas purchase homes with no down payment. Income limits apply.
Typical Rate
~6.40%
Best For
Rural and suburban buyers within income limits
- No down payment required (100% financing)
- Below-market interest rates
- Geographic eligibility restrictions (rural/suburban areas)
- Household income cannot exceed 115% of area median income
Jumbo Loan
Jumbo loans exceed the conforming loan limit ($832,750 in most areas for 2026). Because they can't be purchased by Fannie Mae or Freddie Mac, they carry stricter requirements.
Typical Rate
~6.93%
Best For
Luxury or high-cost area buyers needing larger loan amounts
- For loan amounts above $832,750 (higher in some markets)
- Typically requires 700+ credit score
- Larger down payment required (10–20%)
- Stricter DTI and reserve requirements
Understanding ARM Rate Caps
ARM loans come with three rate caps that protect you from extreme increases: an initial cap (how much the rate can change at the first adjustment, typically 2%), a periodic cap (maximum change at each subsequent adjustment, typically 2%), and a lifetime cap (maximum total increase over the life of the loan, typically 5%). For example, a 5/1 ARM starting at 6.13% with a 5% lifetime cap could never exceed 11.13%.
Most buyers choose a Fixed-Rate Mortgage for the predictability of a locked-in rate. An ARM can save money upfront but carries the risk of rising payments. Government-backed options like FHA Loan, VA Loan, and USDA loans lower the barrier to entry with reduced down payments and more flexible credit requirements, while Jumbo Loan programs serve buyers in high-cost markets.
Quiz: Test Your Knowledge
Question 1 of 5What is the minimum credit score typically required for a conventional mortgage?
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