How First-Time Homebuyer (FTHB) Loans Work

The Cost of Low Payments and Free Money

Young couple receiving house key from real estate agent
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Getting a good loan is always important, and it’s an especially big deal for first-time homebuyers. First-time buyers are often just getting on their feet financially, so they benefit from borrower-friendly loan features like easier approval and down payment assistance.

There are several ways to get a great deal on your first mortgage, including:

  • Using loan programs designed for first-time buyers, and
  • Shopping around and qualifying based on your strong credit score and income

While loans specifically designed for your first home purchase may sound appealing, they are not always a perfect fit. They often come with strings attached – which might or might not be dealbreakers.

What Is a First-Time Homebuyer Loan?

A first-time homebuyer loan is designed to help people become homeowners, usually in specific geographic areas. These programs vary depending on where you live and what's available to you, but the general idea is to provide financial assistance to qualified buyers. Benefits come in several forms:

  • Down payment: The ability for buyers to make a very small down payment (or no down payment at all).
  • Interest cost: Organizations subsidize (or help to pay) interest charges, and they can also help borrowers qualify for a loan with a lower interest rate. The result is an easier monthly payment.
  • Grants: “Free money” that can be put towards closing costs, a down payment, and improvements to the home after purchase.
  • Loan forgiveness: cancellation of the mortgage debt (or at least some portion of the debt). This typically happens over a long period of time to encourage buyers to stay in the home long-term.
  • Help with fees: limits on how much lenders are allowed to charge for closing a loan.
  • Deferred payments: loans that don’t need to be repaid (and don’t charge interest) until you pay off the house, usually by selling the home and moving. These loans sometimes serve as your down payment.

Note that the programs available to you might offer any or none of the benefits listed above; it depends on your financial circumstances, and where you live, so you'll have to research what's available in your area.

Where to Find Loan Programs

Finding good loan programs requires some legwork.

A good place to start is the HUD website on homebuying programs (click on your state, then click "Assistance programs" under "Buying a Home"). You can also just search the web, being sure to include your state or city of residence. If you like, you can also include any characteristics about you (with or without your location); for example, if you're a veteran, teacher, or disabled, you might find additional programs.

Who Qualifies?

Define “first-time” buyer: as you might imagine, most programs are targeted towards individuals who have never owned a home. However, some organizations will offer assistance to people who have owned before, as long as they have not owned within the last several years. Again, check to see what’s available to you.

Financial need: you may have to meet certain financial restrictions as well. For the most part, first-time buyer programs reserve benefits for people with low and moderate incomes. If you earn too much, you won’t qualify for the program. Having substantial assets, like cash in the bank or investment accounts, can also reduce your chances.

Loan Restrictions

Expensive homes? Most programs put a dollar limit on the property you’re buying, so don't expect to buy the most expensive properties in your area. Instead, you’ll be limited to less expensive property that is probably more affordable for people who meet the income restrictions mentioned above. Again, the idea is to benefit people who have the most need.

Owner-occupant: you generally have to live in the home as your primary residence. If you're going to rent the place out, you'll need to use a different type of loan; these programs are not for investors.

Health and safety: the home you buy most likely has to meet some physical requirements. It must be in good condition and free from any safety hazards (such as lead-based paint, for example). If you have a home in mind that you can't buy because it's in bad shape, you can try using an FHA 203k rehabilitation loan instead. 203k loans allow you to purchase a property and fund improvements in with just one loan.

Drawbacks of First-Time Homebuyer Loans

For some first-time homebuyers, these programs are perfect. They open the door to home ownership where a family would otherwise have been unable to buy a home. Communities also benefit – homeowners take care of their property, get involved, and contribute to the economy. Nevertheless, first-time homebuyer loans can be the wrong choice in some cases.

With a specialized loan, some potential challenges include:

  • Price restrictions might not allow you to buy the home you want
  • You might lose some of the benefits of the program if you sell your home too soon
  • You may have to pay recapture tax for some of the benefits you received
  • You may be limited to a short list of loan types (only 30-year fixed-rate mortgages for example)
  • If your home increases in value, you may have to share those gains with the program

Given these restrictions, you may be better off avoiding subsidized first-time homebuyer loans. Instead, you’ll probably come out ahead using a plain-vanilla mortgage if you’ve got decent credit. With a FICO credit score above 720, you might not receive any advantage with a subsidized first-time homebuyer loan. Once your score drops below 680, the subsidized programs will start to look better.

Other Options

If you find that loan programs are too restrictive, consider a conventional loan or FHA loan that’s not designed for first-time buyers.

FHA loans allow you to buy with as little as 3.5% down. You don’t need great credit, so they’re an option for people who are just starting to borrow or for those who are recovering from financial hardship.

Conventional loans also allow for small down payments. However, you’ll most likely need to pay private mortgage insurance (PMI) until you get to at least 80% loan to value.

PACE loans allow you to upgrade a property you own, which might expand the universe of homes for which you'll consider borrowing. When a house would be perfect if it just had energy-efficient appliances, you might be able to receive funding for those upgrades.

The best approach is to explore all of your options. Take a look at what your traditional mortgage broker is offering, check out online loans, and compare those offers to subsidized loans. Once you look at the numbers, factor in the value of flexibility.

In addition to loan programs, be sure to learn about the First-Time Homebuyer Tax Credit to maximize your savings.