USDA Loans – Mortgage for Homes in Rural or Suburban Counties
What is a USDA loan?
A USDA loan is a mortgage backed by the United States Department of Agriculture. It’s for borrowers
with low-to-moderate income levels who buy homes in rural or suburban areas.
There are two main types of USDA home loans:
- Guaranteed: This type is backed by the USDA, and you apply through a participating
lender. - Direct: The USDA actually issues the loan, so you apply directly with the USDA.
USDA Direct loans are for lower-income borrowers, and you must meet stricter criteria. When people
refer to a USDA loan, most are referring to a guaranteed loan, aka the USDA Rural Development
Guaranteed Housing Loan Program — and that’s the type of USDA loan we’re exploring in this article.
With a USDA loan, you can buy a home with no down payment. You must get a fixed-rate mortgage;
adjustable rates aren’t an option.
How a USDA Loan is different than
other types of mortgages
There are two basic types of mortgages: conventional loans and government-backed loans.
A conventional loan is not guaranteed by the government. A private lender, such as a bank or credit
union, gives you the loan without insurance from the government. But you may choose a conventional
mortgage backed by government-sponsored mortgage companies Fannie Mae or Freddie Mac. A
conventional mortgage requires at least a 620 credit score, a 36% debt-to-income ratio, and 3% to
10% for a down payment.
A government-backed loan is secured by a federal agency. If you default on a mortgage that’s backed
by the government, the agency pays the lender on your behalf. When a lender gives you a government-
guaranteed mortgage, it’s like the lender is getting insurance on your loan. It’s easier to qualify for a
government-backed mortgage than a conventional mortgage.
A USDA Rural Development Guaranteed Housing Loan is a type of government-backed loan, and
this means there are looser eligibility requirements.
The three types of government-backed mortgages are FHA, VA, and USDA loans. Here’s how they
are different:
- FHA loan: A Federal Housing Administration mortgage isn’t for a specific group
of people. You may qualify with a 3.5% down payment, 43% DTI, and 580 credit score. - VA loan: A Veterans Affairs mortgage is for active or retired military members.
Many lenders require a 660 credit score and 41% DTI, but you don’t need any money
for a down payment. - USDA loan: This type of loan is specifically for low-to-moderate income borrowers
who are buying homes in rural or suburban parts of the US. You’ll probably need at
least a 640 credit score and a 41% DTI, but you don’t need a down payment.
Who is eligible for a USDA loan?
A lender looks at two factors to determine whether you qualify for a USDA loan: your property and
your financial profile.
Property eligibility
You may qualify for a USDA loan if you’re buying a home in a rural or suburban area. The population
restrictions are 20,000 for some counties and 35,000 for others.
If you already know the address of the home you want to buy, enter the information into the USDA
Property Eligibility Site. You’ll need to select which type of USDA loan you’re interested in, so you’ll
choose “Single Family Housing Guaranteed” if you want a guaranteed USDA loan.
Borrower eligibility
Here’s what you need to qualify for a USDA loan:
- You must be a US citizen or permanent resident.
- Your household should be at a low-to-moderate income level. The maximum income
requirement depends on where you live, and you can see your county’s income limit here. - You’ll need to provide proof of stable income for at least the last two years.
- You should have a good credit history. Most lenders require a credit score of 640 or
higher, although there are exceptions. - Your monthly mortgage payments should not exceed 29% of your monthly income.
This number includes your loan principal, interest, insurance, taxes, and homeowner’s
association dues. - Other debt payments should come to 41% or less of your monthly income. However,
you could qualify with a higher DTI if your credit score is very good or excellent.
There is no maximum borrowing limit. A lender will approve you to borrow a certain amount based
on your financial profile.
The pros and cons of a USDA loan
A USDA loan could be a good fit for you, as long as you’re aware of the potential trade-offs.
Here are the good and the bad to getting this type of mortgage:
Pros
- Low interest rate. You’ll likely pay a lower rate on a USDA loan than you would on
a conventional, FHA, or VA mortgage. Keep in mind that you’ll get an even better rate
with an excellent credit score, low DTI, or money toward a down payment. - No down payment. Other than a VA loan (which is only for borrowers associated
with the military), a USDA loan is the only type of mortgage that doesn’t require any
money upfront, making it easier to get a mortgage if you don’t have a lot of money
saved. - Low insurance costs. You do need to pay for mortgage insurance with a USDA loan,
but it’s lower than what you’d pay with other types of mortgages. You’ll pay 1% of your
principal at closing, then an annual premium of 0.35% of your remaining principal. If you
got an FHA loan, you’d pay a 1.75% mortgage insurance premium at closing, and your
annual premium would come to 0.45% to 1.05% of your mortgage. You’d pay private
mortgage insurance on a conventional loan until you reached 20% to 22% equity in your
home, which could take a long time and be expensive without a big down payment. - You can refinance into another USDA loan. If you decide later that you want to
refinance to get lower monthly payments or a better interest rate, you can refinance
into another USDA loan.
Cons
- Location restrictions. USDA loans are for people in rural and suburban parts of the
US. If you want to buy a home in the city or an area with more than 35,000 residents,
you probably won’t qualify. - Income restrictions. You must be at a low-to-moderate income level (the exact
number varies by county) to be eligible for a USDA loan. - No adjustable-rate loans. You can only get a fixed rate with a USDA loan, not an
adjustable rate. Although this is limiting, the good news is that fixed-rate mortgages are
the better deal right now. Rates are at historic lows, so you can lock in a super low rate
for the entire life of your loan. - Only single-family homes. You can’t use a USDA loan to buy a multi-family home.
If you aren’t looking for a single-family home, you might consider an FHA loan instead. - No cash-out refinances. A cash-out refinance is a type of loan that lets you receive
cash if you’ve built equity in your home. You can refinance a USDA loan, but cash-out
refinances aren’t an option.
