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Can a Seller Refuse to Accept an FHA Loan?

FHA-backed mortgage loans are a popular way to finance a home, and they’re especially convenient for many first-time home buyers that either have bruised credit or can’t make a significant down-payment.

In fact, for many home buyers, an FHA-insured mortgage may be the only financing option available to them.

But what if you’ve set your eyes on your dream home and the seller is refusing to accept an FHA loan? Can a seller even refuse an FHA loan? And what are the reasons why a seller might decide not to accept an FHA loan?

Can a Seller Refuse to Accept an FHA Loan
Can a Seller Refuse to Accept an FHA Loan?

First, to answer the question – yes, a seller has the right to refuse an FHA loan and can do so at its sole discretion without any repercussions.

As for the reasons for a seller’s refusal, I’ll get into these along with the benefits, requirements, and other considerations for sellers and buyers when it comes to FHA-backed mortgages.

Why are FHA Loans So Popular?

FHA loans have many undeniable benefits to both buyers and lenders. For starters, lenders are insured by the federal government if a borrower defaults or fails to pay.

For borrowers, this type of loan system makes the acquisition of property more accessible. While FHA loans do have a set of requirements that borrowers must meet, the requirements related to credit score and down-payment are less strict compared to those of conventional loans.

For example, theoretically, an FHA-insured mortgage loan can be accessed even with a credit score of 500, provided that the borrower can offer a down-payment of 10%.

FHA Loan Accepted with 580+ Credit Score
FHA Loan Accepted with 580+ Credit Score

The down-payment can even be lower than 10%, it can go as low as 3.5%, if in turn the borrower has a better credit score, namely a credit score of 580+.

Undoubtedly, some lenders will have stricter credit score requirements and may want to see a credit score around 640, especially with a small down-payment.

Beyond the somewhat more flexible credit score and down-payment requirements, there are two other noteworthy aspects that make FHA loans appealing to the low and mid-income American.

Namely, the fact that these loans can be accessed even if the borrower has filed for bankruptcy in the past or has had a foreclosure, provided that a certain amount of time has passed (2 and 3 years, respectively) and the borrower has good credit.

Another often overlooked aspect of some FHA loans is loan assumability, which allows a third party to assume the loan of the borrower, a perk which is not available with conventional loans.

In a nutshell, these are the benefits of an FHA loan. The lender is insured by the government against borrower defaults, while the borrower has a more streamlined and easier access to a mortgage loan.

While the benefits for lenders and borrowers are undeniable, sellers may not share the same excitement over an FHA loan, and may decide that they will not accept such a loan.

Why Would a Seller Refuse to Accept an FHA Loan?

There are a few reasons why a seller might decide against accepting an FHA loan. Some of these reasons and concerns are unfounded or overblown, others are not without merit.

Here are the major reasons why seller refusal is still something that FHA borrowers must deal with:

  • Government involvement and red tape;
  • FHA appraisal and inspection may be unfavorable to the seller;
  • Rejection during the underwriting process.

Let’s see which of these is a founded concern and which is an overblown concern that sellers shouldn’t worry about.

Seller Concern About Inefficiency (Red Tape)

Since the government insures lenders against borrower default-related financial losses, it’s natural that the government has a high involvement rate in the processes involved by an FHA loan approval and closing.

This involvement comes with a lot more bureaucracy than in the case of conventional loans and sellers may view that they would be at a disadvantage, refusing FHA loan offers as a result.

In recent years, however, the FHA has significantly streamlined the paperwork process, reducing some of the red tape involved with this home financing option.

Therefore, while government involvement can come with a lot of red tape and inefficiency, in practice things have become more streamlined in recent years.

More Stringent FHA Appraisal and Inspection

FHA Appraisal and Inspection
FHA Appraisal and Inspection

Another major reason why sellers might refuse an FHA loan is concern about the FHA-specific appraisal and inspection process, which indeed may put some sellers in a difficult position since their homes may not pass the appraisal process.

However, there is one misconception that still continues to cause fear among sellers, namely that sellers may be stuck with carrying out multiple minor repairs at their own cost. This is no longer the case.

Before the FHA carried out revisions to the lender and appraisal guidelines a few years ago, sellers were responsible for carrying out the multiple repairs that the property needed as found by the appraisal and inspection.

The selling of homes that were found to be in need of certain minor repairs could not be finalized and closed until said repairs were carried out.

Since the introduction of ‘as is appraisal’, the seller is no longer responsible for carrying out these minor repairs (i.e. leaky faucets, damaged countertops, etc.) and the property can be transferred ‘as is’ since these damages are caused by what the FHA calls normal ‘wear and tear’.

Therefore, the seller no longer has to fix them, and the buyer can agree to accept these minor defects and can include repair costs in their new mortgages.

While the FHA-specific appraisal and inspection must meet the Department of Housing and Urban Development requirements for health and safety standards, minor repairs are no longer a concern for sellers if a buyer accepts a property ‘as is’.

Of course, sellers with houses in a state of disrepair, a bad overall condition or which pose significant safety issues do need to worry that the inspection process won’t work out in their favor and these issues will prevent the loan from closing.

With conventional loan appraisals, inspections are carried out only to determine the value of the property, but the FHA takes things a step further by examining whether the property is safe and healthy for the occupants.

While most home will meet these requirements, some home will not, and sellers of those homes are right to be worried about accepting an FHA offer.

Denial / Rejection During Underwriting

Denial / Rejection During Underwriting
Denial / Rejection During Underwriting

Besides the government red tape and the more stringent appraisal and inspection process, a third reason why sellers are weary of FHA loan offers is the fear that a loan will fall through during underwriting.

There’s this misconception that since this type of loan is accessible to people with lower credit scores, the closing rates for these loans is lower compared to the closing rates of conventional loans.

In fact, once the borrower is pre-approved for an FHA mortgage, the rate of success is similar to that of other loan types, and once a borrower is cleared and pre-approved, there is a good chance the loan will close.

Sellers that worry about a loan falling through during the underwriting shouldn’t do so, since this fear isn’t founded in reality, and FHA loans and conventional loans have similar closing rates.

Can a Seller Be Compelled to Accept an FHA Loan?

No, a seller cannot be forced to accept an FHA loan if they don’t want to. There is no law that could force a seller to accept FHA loan offers. Property owners can pick and choose the type of offers they’re willing to consider based on mortgage financing.

If you’re a buyer with an FHA-insured mortgage, my advice is to check whether sellers accept FHA loan offers beforehand.

Whether the reasons for refusal to accept this type of loan are founded or not, a seller can decide not to consider offers that come from buyers with an FHA-backed mortgage.

The possibility of refusal from a seller should not discourage you from using an FHA loan to finance your home if this is the best financing option that works for you.

Conclusion

There are a few misconceptions regarding FHA loans (e.g. fall through during underwriting, compulsory repairs, etc.), and I hope I managed to clear some of them up for you.

But some concerns are founded (e.g. when a seller is selling a house in a state of serious disrepair an FHA loan will not be approved for that house) and if you’re a prospective buyer can now have a better understanding why sellers might not want to deal with FHA loans.

At the end of the day, if a seller refuses to consider your offer because you’re using an FHA mortgage loan, you can rest assured that another buyer will accept it without any issue.

Likewise, if as a seller you’re dealing with a qualified borrower, the type of loan mortgage they’re using won’t have any bearing on whether the loan will close or not.

I hope I have managed to shed light on the issues that concern sellers and show how some of the perceived disadvantages are not in fact real.

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