What is a USDA Loan?
If your American dream life includes a cozy rural home, but you are concerned that you might not have a high-enough income level to qualify for a traditional mortgage, you might benefit from a USDA loan. USDA home loans are made possible by the United States Department of Agriculture. USDA loans are a valuable resource designed for buyers in eligible rural areas of the country and are intended to promote homeownership in those areas. They are also known as USDA Rural Development loans. But don’t get the wrong idea about USDA loans, they aren’t restricted to farms or only rural areas. Many USDA-eligible properties are located in the suburbs just outside of major cities.
USDA Loan Overview
A USDA loan is one of several government-backed loan options, meaning that it’s guaranteed by the federal government. The same way FHA loans are insured by the Federal Housing Administration, USDA loans are insured by the USDA. This allows lenders to offer them with more flexible terms including no down payment required and no maximum or minimum income limitations.
The USDA created these mortgages in 1991 to increase opportunities for low- and moderate-income borrowers to be able to purchase homes in rural America. They can be used to purchase a new home, construct one, or renovate an existing house. USDA loans are only available as fixed-rate loans and homebuyers can use 100% of the loan to buy their house.
The loan limit of USDA loans can vary widely depending on the state and region: loans can be as much as a half-million dollars in more expensive markets such as California, or around $100,000 in more rural sections of the country.
How Does a USDA Loan Work
UDSA loans can either be issued directly by the USDA or by a lender that chooses to participate in the loan program. Eligibility depends on factors like location, income level, and the condition of the property. So, when applicants apply for this loan, the household and the property will need to meet certain requirements both for the USDA and the individual lender.
In general, USDA home loans are for those low- to middle income earners whose income is no more than 115% of the area’s median income, based on the household size, and location.
Here are the general steps for how the USDA loan process works.
- Get in touch with a lender
- Obtain pre-approval for the loan
- Check the applicant requirements alone or with your lender’s assistance
- Verify your eligibility
- Find a home you want to purchase
- Verify that the property meets the USDA guidelines for eligibility
- Your lender adds the final details, including the property details, to your loan file and submits it to the USDA for approval
- Your lender closes the loan and you move into your new house!
To find out if a USDA home loan is the right choice for you, contact New American Funding today. Our loans officers are happy to answer any questions you might have about the application process. You can talk to us online or see if one of our office branches is located in your town and visit us in person.
USDA Loan Benefits
USDA loans often have more flexible terms and qualifications than other mortgages like Conventional loans. This can make them particularly helpful to people who cannot qualify for a traditional mortgage.
Here are some of the general benefits of a USDA loan.
- No down payment: No down payment is required for USDA loans. However, the amount of money you put down can affect your interest rate. If you can put down a larger amount for a down payment, you may be able to lower your interest rate.
- More flexible credit scores: Some lenders accept credit scores as low as 580 for USDA loans.
- 100% financing for qualified borrowers
- Closing cost assistance: Borrowers can get assistance paying for their closing costs. This assistance can be in the form of familial gift funds, seller concessions, or with an increase in your USDA loan amount.
- Funds can be used to improve accessibility for disabled household members
- When the value of the home exceeds the purchase price, borrowers may finance many things in the loan amount, such has appliances, home repairs (roof, windows, heating/air, etc.)
- No set minimum or maximum loan limits: The limits of USDA loans depend on the location of the property.
- No private mortgage insurance
- No age restrictions
- No occupational requirements: USDA loans are not exclusive to people who work or have worked in certain careers.
- You can refinance a USDA loan: As long as your credit and loan payments are in good standing, you may be able to refinance a USDA loan to lower your monthly payments
Like FHA loans, the requirements for a down payment to obtain a USDA loan are quite flexible. Further, there is an initial and monthly fee as with FHA loans, however a USDA loan does not require mortgage insurance, saving you money. The applicability of some benefits is dependent on your individual lender.
Types of USDA Loans
The USDA offers several different types of loan programs for interested homebuyers.
USDA Direct loans: These loans are issued directly by the USDA instead of through a lender. They are designed for low-income households and can offer interest rates as low as 1%.
USDA Loan guarantees: These are similar to VA and FHA loans. A lender partners with the USDA and issues the mortgage and the USDA backs it. The USDA guarantee lets lenders offer lower interest rates. The lender will underwrite the loan, but final approval will come from the USDA.
USDA Home improvement loans: These loans are designed for a very low-income homeowner to use to improve an existing home. They can be used to repair your home or, if you are elderly, you can use the money to improve the safety of your home by removing hazards.
USDA Loan Eligibility and Requirements
Since USDA loans are backed by the government, some of the requirements may be more flexible than those of traditional mortgages. However, there are some specific requirements that you will need to meet in order to be approved for the loan.
- A credit score of 580 or higher: When qualifying for a mortgage, a higher credit score is better than a lower one. A higher credit score makes it easier to get a loan and may get you lower interest rates.
- Strong credit history: Your credit history will help you evidence the ability to reliably pay back your loan. Lenders will want to see that no accounts have been moved to collections in the last 12 months.
- Property must be your primary residence: USDA loans may not be used for investment properties, rental properties, or second homes.
- Property must be in an eligible area: The USDA has provided an interactive map of the areas across the United States that are eligible for USDA loans. Using their website, you can search the address of the property you want to finance and it will tell you whether or not it is located in an eligible area.
- Property must be appraised: This is to ensure that the loan amount is accurate to the value of the house. An appraisal is also required to make sure that the property meet the specific standards set by the USDA. These include things like that the property must be up to code, must have working plumbing and heating, and can’t have damage like broken windows.
- You must be a U.S. citizen, U.S. non-citizen national, or a Qualified Alien
- Eligible income limit: USDA loans are specifically for low-to moderate- income households. They have income requirements that depend on factors like the borrower’s location. However, in general, the borrower’s income cannot be more than 115% of the median income of the area. You can check your income eligibility here.
- Reliable income source: Lenders will want to see evidence that you are employed and have the financial means to pay off the loan. In general, you will be asked to show at least 12 months of proof of income.
- Ability to pay associated fees and costs: This will include lender fees, a guarantee fee, and closing costs. The guarantee fee is paid up front and is based on the total loan amount. This fee is only paid once and it may be able to be financed into the loan. There is also an annual funding fee that the borrower must pay each month. This is a fee the lender then pays yearly to the USDA. The closing costs are similar to those of other loans. They can include a home appraisal fee, service fees, and taxes. Closing costs are typically 2-6% of the purchase price of the house.
- The monthly payments (principal, interest, insurance, and taxes) cannot exceed 29%-32% of your monthly income depending on credit qualifications.
- The money from a USDA loan may not be used for investing or other business purposes.
In addition to these qualifications, your individual lender will have their own set of requirements.
How to Qualify for USDA Home Loan
Qualifying for a USDA home loan uses a similar process to other home loans. You must meet the above requirements as well as the individual requirements of your lender. These may include a debt-to-income ratio, proof of income, and credit requirements. You will need to provide information regarding your personal identity, your finances, and the property you wish to finance.
Once you have gathered all of the necessary information and determined that you are eligible for a USDA loan, your lender can walk you through the application process.
USDA Loans vs Conventional Loans
Conventional loans follow stated guidelines set by Fannie Mae and Freddie Mac. Fannie Mae and Freddie Mac purchase those loans from the lenders and guarantee that the lender will be repaid. Because Conventional loans are not backed by government agencies, they follow different guidance than government-backed loans do. Conventional loans also generally have fewer restrictions on them than loans offered by the government. This allows lenders to offer their borrowers more flexible terms, features, and benefits.
The requirements for USDA loans and Conventional loans are also different because they follow different guidelines. For instance, lenders will accept a credit score as low as 580 for USDA loans, but require a minimum credit score of 620 to qualify for a Conventional one. Conventional loans also require private mortgage insurance if you are paying a down payment of less than 20%.
Use the New American Funding mortgage calculator to calculate your mortgage costs today.
Your individual lender or banker can help you understand the products offered and find the right loan option for your needs.
USDA Loan FAQs
What's the difference between USDA loan and FHA?
A USDA loan and an FHA loan are both government-backed mortgages. The main difference is that the USDA loan is backed by the United States Department of Agriculture, while the FHA loan is backed by the Federal Housing Administration. They also differ regarding where the loans can be utilized. A USDA loan is intended mainly for borrowers who wish to buy in defined rural or farmable areas, while an FHA loan does not exclude specific geographic areas.
What disqualifies a home from USDA financing?
Houses can be disqualified for many reasons including the location and the condition of the home. If the home is not in one of the USDA eligible areas it will not qualify for a loan. Some houses may also be in such a state of disrepair that they won’t qualify for a USDA loan. This may be the case if the heating or plumbing don’t work, if the roof needs to be replaced, or if the home is unsafe.
Do USDA loans have lower interest rates?
Yes, USDA loans typically have lower interest rates than other government-backed loans, like FHA, or traditional mortgages. Since the lenders are protected from the homeowner defaulting on the loan, they are able to offer lower rates.
How long does it take for the USDA to approve the loan?
A homebuyer can expect it to take 30-60 days to get approval for a USDA loan. The exact amount of time depends on several factors. These can include how long preapproval takes, how the appraisal goes, and how busy your lender is.