Should a First-Time Buyer Do FHA or Conventional 3% Down?

The honest answer: if your FICO is 680 or higher and your debt-to-income (DTI) fits inside conventional guidelines, Conventional 3% almost always wins long-term — because the mortgage insurance comes off when you reach 20% equity. FHA mortgage insurance stays for the life of the loan when you put less than 10% down. Below 680, FHA usually wins on payment because conventional MI gets expensive fast at lower scores. The three-way decision is FICO band, MI cost at your score, and how long you plan to keep the loan.

The handbook view (what the rules actually say)

Both programs allow first-time buyers in with low down payments, but the program rules are very different in places that matter:

• FHA: 3.5% minimum down with a 580+ FICO; 10% down for 500–579. An upfront mortgage insurance premium (UFMIP) of 1.75% of the loan amount is financed into the loan, plus an annual MIP charged monthly. With less than 10% down, annual MIP runs for the life of the loan. (Source: HUD Handbook 4000.1, II.A.2 and the most recent HUD Mortgagee Letter on MIP rates.)
• Conventional 3% (HomeReady / Home Possible / standard 97): 3% minimum down for qualifying first-time or low-to-moderate-income buyers; 5% on standard conventional. Private mortgage insurance (PMI) is required when LTV is above 80%, but PMI is removable. Under the Homeowners Protection Act of 1998 (12 USC § 4901–4910), the servicer must auto-terminate PMI at 78% LTV based on the original amortization schedule, and must cancel on borrower request at 80% LTV (subject to the request and equity requirements). (Source: Fannie Mae Selling Guide B5-6-01 for HomeReady; B7-1-02 for MI coverage; HOPA cite above.)

The plain-English translation

The single biggest difference between these two loans isn't the down payment — it's the mortgage insurance:

• FHA mortgage insurance is two parts: the upfront 1.75% (financed into the loan) and a monthly amount that you pay forever on a 30-year FHA with less than 10% down. The only way to get rid of it is to refinance out of FHA — usually into a conventional loan once you've built enough equity.
• Conventional PMI is monthly only, no upfront premium, and it falls off automatically when your loan balance hits 78% of the home's original value (or you can request cancellation at 80%). For a buyer in a normal-appreciation market, that's typically 5–8 years on a 3%-down loan with regular payments — sooner if home values go up or you pay extra principal.
• Conventional PMI cost depends heavily on your credit score. At 760+ it can be very cheap; at 620–639 it can be more expensive than FHA MIP. Somewhere between 660 and 700 is where the math usually flips.

Side-by-side: where each program wins

The table is a rule of thumb, not a quote. PMI pricing varies by mortgage insurer and the specific loan profile — two borrowers with the same FICO can get different PMI rates. The right move is to actually price both scenarios with the same loan amount and compare the monthly + the total cost over 7 years.

Lender overlays — where the rules get tighter

The handbook minimums above are the program floor. Individual lenders impose "overlays" — tighter rules on top of the program rule. Two lenders can both legally offer FHA loans yet behave very differently:

• FICO floor: The HUD floor is 500 with 10% down, 580 with 3.5%. Many retail lenders won't touch anything under 620–640. A few wholesale investors go down to 580 (and rarely lower with strong compensating factors). As an independent broker we shop for the investor that will actually do the loan at your score, instead of telling you "we don't do that."
• DTI cap: FHA can go above 50% DTI with AUS approval and compensating factors, but many retail lenders cap at 50% or even 45%. Conventional behaves similarly — the AUS may say yes, the lender may say no.
• PMI partner pricing: Conventional MI is provided by a small set of MI companies (MGIC, Radian, Essent, National MI, Arch, Enact). Lenders don't always shop these — your PMI rate can vary materially depending on which partner the lender defaults to. Brokers usually have access to multiple.
• Manual underwriting on FHA: If AUS returns a "refer" instead of an "accept," only some lenders will manually underwrite. We keep relationships with investors that will.

Which lenders we actually use for this scenario

For a first-time buyer with 680+ FICO comparing FHA 3.5% to Conv 3%, the question I'm actually asking when I shop lenders is who's priced competitively on HomeReady or Home Possible specifically. Some wholesale investors lead on FHA pricing but are uncompetitive on Conv 3%. Others are the opposite. The borrower's program shouldn't be picked first — the lender's lane should be picked based on what the borrower actually qualifies for, then matched to the investor pricing that lane well today.

For Conv 3% in particular, I lean on the wholesale investors with consistent HomeReady and Home Possible pricing. They aren't always the same investors I use for standard 5%-down Conv. Some carry overlays like “no Conv below 5% down” regardless of what Fannie or Freddie allows — those get crossed off the list immediately for this scenario, even if they're cheap on the 5%-down product.

The investors I avoid are the ones that price punitively on Conv 3% to push volume toward FHA at retail. They're often the same shops where HomeReady isn't on the product menu at all — the borrower never sees Conv 3% as an option because the LO never had it to offer. Broker channel access to multiple investor menus is the structural fix for that.

The right test for any LO is straightforward: ask for the side-by-side. FHA 3.5%, Conv 3% (HomeReady or Home Possible), and standard Conv 5% if eligible, all priced on the same day for the same loan amount. If the LO can't or won't produce that comparison, that's the answer.

Real-world cases

I've seen this pattern plenty of times — most recently with a Colorado first-time buyer in 2023 who came to me after he'd already started the process with another LO. He'd paid for the appraisal (a few hundred dollars), and his original LO had presented FHA only. When he started asking whether he could get a better deal somewhere else, the LO told him it was “too late” to switch because the appraisal was already paid for. That framing is misleading on two levels.

First, sunk cost is sunk cost. The appraisal fee was already gone whether he stayed or switched. The actual question was whether paying for a new appraisal at a different lender was worth the long-term savings on a different program. For a typical Colorado FTHB loan amount with 680+ FICO, the difference between life-of-loan FHA MIP and removable Conv PMI compounds into meaningful five-figure savings across the life of the loan. A few hundred dollars for a second appraisal versus tens of thousands over time is math that should be presented openly, not buried under “it's too late.”

Second, FHA appraisal portability cuts narrower than most borrowers realize. An FHA appraisal can transfer to another FHA lender at the same case number — that's intra-FHA portability. It is not “the appraisal you paid for locks you into FHA.” If the borrower's better answer is switching to Conv, the appraisal cost is a separate issue anyway. The “too late” line is either ignorance of the rule or steering, and I see it both ways depending on the LO.

That 2023 borrower closed FHA. He's making FHA payments today on a loan where life-of-loan MIP costs him a meaningful monthly premium over what Conv 3% with removable PMI would have run. His only exit is a full refinance, which costs another round of closing costs and depends on rates being favorable when he's ready to act. Composite detail simplified for illustration; the underlying pattern repeats across multiple files I've seen, not just this one.

How the big retail lenders typically handle this

The retail LO at Rocket, UWM, or a typical megabank can only sell that lender's products at that lender's pricing. If their employer is uncompetitive on HomeReady or Home Possible — and many are — the LO has every structural incentive to push borrowers toward FHA where the lender IS competitive, and where the LO's own compensation on the file is usually higher.

The LO Compensation Rule under Reg Z (12 CFR § 1026.36(d)) prohibits an LO from being paid based on the terms of a specific loan — rate, fees, points. It does not prohibit different compensation by loan TYPE. Many retail shops pay LOs more on FHA than on Conv. That's partly because FHA loans include the 1.75% upfront MIP financed into the loan amount, so the LO's commission percentage is calculated against a larger number. Partly because lender margins on FHA tend to be wider than on Conv.

The structural conflict: a first-time buyer with 680+ FICO and a clean income story almost always qualifies for both FHA 3.5% and Conv 3%. Conv 3% is usually better for the borrower long-term because of removable PMI. But Conv 3% is usually worse for the LO and the retail lender's bottom line — especially at shops that aren't priced competitively on HomeReady. So the borrower hears “FHA is easier” or “you're a first-time buyer, FHA is what you want,” and the side-by-side math never happens.

The honest LO presents both options with the math comparison and lets the borrower pick. The dishonest LO presents only FHA. Most retail shops I've seen are somewhere on that spectrum based on how their lender is priced today — not necessarily malice, but a structural incentive that compounds across thousands of files. Broker-channel access to multiple wholesale investors is the structural fix because the comp doesn't flip with product type when the broker shop owns its own comp plan.

A simple decision rule

For a first-time buyer who hasn't shopped yet, the cleanest 30-second filter:

1. 1FICO 680+ and DTI under 45%? Start with Conventional 3% — make the lender prove FHA wins, not the other way around.
2. 2FICO 580–679 or higher DTI? Start with FHA — but ask for the Conventional 3% number anyway, in case PMI prices in your favor.
3. 3Buying a 2–4 unit you'll live in? Almost always FHA — the 3%-down conventional programs don't allow it.
4. 4Plan to keep the loan 7+ years and you qualify for both? Lean Conventional — the MI-removal math compounds.