Everything you need to know about USDA loans
When talk turns to buying a new home, the emphasis is often on the suburbs, small towns and the plentiful housing stock available in bustling urban areas. However, what sometimes gets lost in the conversation are the rolling acres deep in the country, sparsely populated areas far away from the frenetic pace of modern life that have their own unique charm, terrain and communities: rural America.
The nation’s countryside has a durable appeal and plenty of admirers, and thanks to a program created by the federal government, its own specially designed home mortgage loans called USDA loans. For qualified individuals, these loans can help facilitate the affordable and easy acquisition of clean, livable rural homes.
What is a USDA home loan?
The United States Department of Agriculture (USDA) is usually associated in the public imagination with such things as agricultural production and exports, farm subsidies and other notable programs and services such as food stamps and food safety. But in their mission to improve the quality of life in rural areas, the USDA is also instrumental in extending loans to low- and moderate-income individuals and families to promote homeownership and foster individual and community prosperity.
Specifically, USDA loans are issued by the Rural Development Guaranteed Housing Program with the intention of providing home loans with zero down payment for qualified applicants. Generally, given the USDA loan guarantee, mortgage rates will be very competitively priced, but you’ll have to shop around and consult with participating USDA-approved lenders to ensure you’re getting the best deal. Credit scores and debt-to-income ratio will be factored in when determining interest rates.
In addition, as with many federal programs, there are other requirements of eligibility that must be met in order to qualify for a USDA loan, some of which we will discuss below.
USDA loans are designed to make it easier for lower-income rural inhabitants to achieve the dream of home ownership. There are actually a couple different types of USDA home loans, but at this time, the one we want to focus on is the USDA’s most popular offering: Single Family Home Loan Guarantees.
Key loan requirements for USDA mortgage eligibility are as follows:
- Location: The truth is, you don’t have to live in some isolated, deep country region of the nation to be eligible for a USDA home loan. Many areas identified as “suburban” readily qualify. In fact, in what may be a surprise to many, over 95% of the land in the U.S. is considered rural and therefore eligible for USDA designation. Simply visit the USDA Rural Development website and plug in your address to find out.
- Residency and occupancy: To qualify, you must be a U.S. residence or legal alien. You must also agree to make the dwelling your primary residence. Note: You do NOT have to be a first-time homebuyer to qualify for a USDA mortgage.
- Income: This program is for individuals and families in economic need. As such, household income must not exceed 115% of median household income in your area. Similar to the online tool used for location eligibility, there’s an income eligibility page on the USDA Rural Development website to determine if you qualify. In addition, you do need to show consistent income over the past year, and two years if you’re self-employed.
- Debt-to-income (DTI) ratio: Just like with a conventional mortgage, your DTI ratio plays a role in determining your rate. USDA-approved lenders generally like to see a total DTI of no more than 41% (although this can slightly vary from case to case).
- Monthly mortgage payment: Most lenders will need you to demonstrate that your new USDA-backed mortgage payment will not eat up more than 29% of your monthly income. This includes the principal, interest and any related insurance and taxes.
- Credit score: The USDA doesn’t require a specific credit score to be eligible for a home loan, but your lender might. Generally, for loans of this type, it’s important to have a score of 640 or better for streamlined processing.
If you meet the above criteria, then you may be eligible for a USDA home loan with no down payment requirement and zero reserves. These factors alone make it much easier for rural families to pull the trigger on a home purchase.
USDA Direct Loans
For those more financially challenged applicants, there is another loan available besides the Guaranteed Home Loans. They are called USDA Direct Loans, and are sometimes referred to by their technical name: Section 502 Direct Loans.
These loans are designed to assist low- and very low-income individuals who are seeking to purchase a home in a qualified rural or suburban area. The key difference between the Direct Loan and the Guaranteed Loan is that the former provides payment assistance to increase the homeowner’s repayment ability. In effect, this direct payment assistance is a type of subsidy that reduces the mortgage payment for a period of time. For a full rundown of eligibility considerations, applicants should go to the Rural Home Loan (Direct Program) online fact sheet.
Is a USDA home loan right for you?
USDA loans are not the only government-backed loans available to low- and moderate-income homebuyers. However, when compared to other loans available at this income level, USDA loans offer some of the lowest interest rates.
If you already live in or are looking to live in a rural area and meet the program’s criteria, then choosing a USDA home loan can be a good place to begin your home-buying journey. Only VA loans—loans exclusively offered to veterans—can match their below-market rate. This is because both USDA and VA are 100% government-backed loans, thus protecting lenders against potential loss in the event the homeowner is unable to pay.
Unlike VA loans, however, USDA loans are exclusively fixed-rate, 30-year loans. Some VA lenders offer what are called “hybrid ARM” loans, which provide eligible homebuyers some additional flexibility. USDA does not offer these. While this takes some options off the table, the possible government-backed savings is almost certainly worth the trade-off.
The final piece in determining the specific below-market rate is, of course, the lender. Ultimately, the lender will set the rates. Here’s where having minimal debt and a good credit score play to your advantage. Of course, since you’re choosing a USDA home loan, you can have a high degree of confidence that the rate provided will likely be lower than any conventional rate. To ensure this is the case, it’s always recommended that you shop around and talk to different lenders to find a rate that meets your needs.
Since the USDA boasts some of the lowest financing options available, this can come in handy when it comes to refinancing your current home. The USDA loan program makes it easy for those with a current USDA home loan to obtain a simple, fast, market-friendly refinance.
Either directly or through approved lenders, the USDA offers refinancing in all 50 states via 30-year fixed rate products, and those applying must meet some basic eligibility requirements. That said, there are three distinct types of USDA refinances:
USDA standard streamline refinance
Launched in 2012, it was conceived in light of other successful streamline programs such as the VA Interest Rate Reduction Refinance Loan. With a USDA streamline refinance, current homeowners who’ve been making payments on their mortgage for the previous 12 months may be able to refinance without a new appraisal and add or remove borrowers from the note.
USDA Streamlined-Assist refinance
Arguably, the most popular of the refinaces available, the Streamlined-Assist refinance comes with some basic requirements:
- The home must be your primary residence
- You must show 12 consecutive on-time payments
- The home must be mortgaged via USDA Direct Home Loans or Guaranteed Home Loans
- Refinance must result in a payment reduction of at least $50 per month.
The USDA’s non-streamline refinance option shares many similarities with the USDA streamline option. One key difference: Borrowers are required to get a new appraisal. Borrowers may choose this refinance option to avoid the $50 payment reduction requirement for the streamline-assist or to receive an updated appraisal on their home. The non-streamlined option also allows homeowners to remove a borrower from the contract, and in some cases, to incorporate closing costs into the new loan depending on new appraisal value.
It’s truly remarkable that so many different branches of the federal government are invested in helping Americans of various income levels achieve the time-honored dream of homeownership. It’s particularly heartening that there are incentives for rural Americans to put down roots where they’re most comfortable and help fuel the engine of prosperity.
USDA loans provide a unique entry point into the housing market for qualified individuals. With the backing of the federal government and a low-interest rate climate, it’s never been easier to refinance or purchase a home in rural areas throughout the U.S.
*Guaranteed Rate, Inc. is a private corporation organized under the laws of the State of Delaware. It has no affiliation with the US Department of Housing and Urban Development, the US Department of Veterans Affairs, the US Department of Agriculture or any other government agency.