What is a USDA loan?
USDA home loans are backed by the U.S. Department of Agriculture. They feature low fixed-interest rates, require zero down-payment, and are generally easier to qualify for as compared to conventional loans.
The purpose of USDA loans is to help low-income Americans in rural areas purchase homes. Though they are intended for rural areas, many suburban areas near major cities are categorized as ‘rural’ according to the USDA. Additionally, you don’t need to work in the agricultural industry to qualify for a USDA loan. Eligibility is primarily determined by income, location, and the size of your household.
Types of USDA Loans
The USDA offers three types of loans. Read below to find out which one fits you best:
Guaranteed USDA Loan
The USDA works with local lenders to offer low-income buyers government-guaranteed loans. This means the USDA insures a portion of the mortgage in case of default. Because these loans represent a low financial risk, lenders are willing to offer them to low-income borrowers at modest interest rates and fees. To qualify for a USDA loan, you must earn less than 115% of the median family income in your designated rural area.
Direct USDA Loan
The USDA directly funds the loan borrower, so instead of a bank, your lender is the USDA itself. They are typically for low-income Americans without access to alternate financing options to purchase a residence. To qualify, the borrower’s income must fall below the low-income limit, which changes from area to area as designated by the USDA.
USDA Home Improvement Loan
The USDA provides these loans to low-income Americans who need to repair or enhance their existing homes. Under certain circumstances, the USDA may combine these with grants, meaning you don’t have to pay back the loan.
Do I qualify for a USDA guaranteed loan?
Guaranteed USDA loans are limited to owner-occupied homes in designated areas. Additionally, you can’t the loan to purchase an investment property like a rental home or fix and flip. Also, the property cannot be utilized for any commercial purpose.
Only borrowers that meet low-income requirements can secure a guaranteed USDA loan. Moreover, your monthly mortgage payment, including property taxes and insurance, can’t exceed 29% of your pre-tax monthly income. Finally, your total monthly payments including other bills can’t exceed 41% of your monthly income.
To view regions where you can finance a home with a USDA loan, check out this interactive USDA map. The map displays USDA loan income limits by region. It also lists ‘low’ and ‘very low’ income for each region.
Tips for Securing Your USDA Guaranteed Loan
- Do plenty of research. Qualifying for a USDA guaranteed loan comes down to your income and location. Look up the USDA’s website and find out if you are in a designated area, and the income limits for that area.
- USDA loans require extensive documentation. It’s helpful to maintain a mortgage pre-approval checklist.
- Before you house hunt, learn how much house you can afford. This will determine how much of an interest rate you can manage.
What is the minimum credit score requirement for a guaranteed USDA loan?
Most lenders prefer a credit score of 640 or above when it comes to zero down payment USDA loans. A score of 640 for higher not only ensures a favorable interest rate, but also a streamlined application process.
If your credit score falls below 640, or you don’t have much of a credit history, you can still qualify for a USDA loan. However, you may have to accept a higher interest rate. If you lack credit history, you’ll need to provide evidence of your financial standing, typically in the form of timely bill payments for things like utilities and car loans.
USDA mortgage lenders generally prefer to work with borrowers who keep up with their financial obligations. If you have any accounts that have gone to collections in the past 12 months, or have experienced bankruptcy, you’ll need to provide relevant documentation.
What rates and terms can I expect with a USDA guaranteed home loan?
Typically, you can secure more favorable interest rates for USDA loans as compared to conventional mortgage loans, which tend to range from 3% to 5%. It ultimately depends on a number of factors, including loan to value ratio, and the lender’s assessment of your financial, credit, and income history. Qualified borrowers can choose from loans with 15 year and 30 year amortization rates.
Even though the USDA does not set official loam amount limits for guaranteed loans, your loan amount is determined by current market rates and the area you plan to settle in. In places like California where average home prices exceed $500,000, you can secure a bigger loan as compared to somewhere like Western Virginia, where homes sell for as little as $100,000.
With down payments on USDA loans close to or at zero, you’ll need to cover an up-front insurance premium to protect the seller in case of default. This payment usually adds up to between 1% and 2% of the loan amount. You’ll also need to pay a fee of .35% to .45% of the loan amount throughout the year.
Let’s take for example a $300,000 loan. Imagine it carries a .5% upfront cost and a .40% premium. In this case, you’d pay $1,500 upfront. Meanwhile, your monthly premium would be $100. Notably, you can roll the upfront premium into the loan amount. In this scenario, the $300,000 loan becomes a $301,500 loan.
Closing costs apply to most mortgages, including USDA guaranteed mortgages. They include both lender and administrative fees. Closing costs for USDA loans vary considerably depending on location. Nonetheless, they are usually equal to between 1% and 3% of the total loan amount. However, unlike with conventional loans, the closing costs for USDA loans can be covered with gift money. All you need to do is provide proper documentation of the gift, such as a signed letter from the giver.
What do I need to apply for a guaranteed USDA loan?
Are you ready to apply for your USDA guaranteed loan? Start by gathering the following documents:
Documents Needed to Apply for a USDA Loan
- Proof that you are a U.S. citizen or permanent resident
- Proof you are a non-citizen national or have qualified alient status
- Pay stubs and tax returns for two previous years
- Documentation of bill payments and other financial obligations
- Credit score report
- If you have no traditional credit history, provide evidence of alternative credit like rental and utility payments
To begin the application process, reach out to a USDA-approved lender in the area you with to live in. The lender will process your application via the USDA application system. Not sure how to find a USDA-approved lender? Visit the USDA Rural Development website. Each state also has its own guaranteed loan coordinator.
Ready to Secure Your USDA Guaranteed Loan?Click Here to Apply
How long is the application process for a USDA guaranteed loan?
The application process for a USDA guaranteed loan typically lasts a few weeks, and breaks down into the following steps.
Your lender reviews your financial statements, employment history, and credit history prior to giving mortgage approval. Once the approval comes through, the lender notifies you for the mortgage amount they are willing to loan. The lender may have certain requirements and conditions independent of USDA standards. Make sure to read all the documentation and asks lots of questions.
With you mortgage pre-approval secured, you are now free to search homes for sale in a USDA designated region.
Sign the mortgage to secure financing
After you sign your mortgage, your lender conducts a final review to ensure all documentation is in order. At this point, an independent appraiser typically inspects the home you’re purchasing to ensure it follows USDA guidelines, and that your mortgage is in line with the home’s current market value.
Final USDA approval
Your lender submits your application to the USDA for one final review.
Closing on your new home
You’ll sign any remaining documents, upon which you are ready to move into your new home within a few days!
The USDA Rural Development helps hundreds of thousands of low-income families realize the dream of home ownership every year. This initiative not only makes homeownership a reality for the economically disadvantaged, it also stimulates the rural American economy. However, the USDA’s definition of rural spans a broad landscape that often includes suburban areas close to major cities. For very-low to moderate income Americans, USDA loans are nothing short of a godsend.