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USDA loans are home loans issued or guaranteed by the United States Department of Agriculture. These loans are part of the USDA Rural Development Program, designed to encourage home ownership in small communities across the United States by providing low interest, low down payment mortgages to borrowers. low to moderate income.
To get a USDA loan, borrowers must live in a rural area, which the USDA defines as having a population of less than 35,000. Borrowers can potentially take out a mortgage for 100% of the purchase price of their home. They have to use these loans to finance a primary residence and have to buy two types of mortgage insurance, also.
Additionally, USDA guaranteed home loans require applicants’ income not to exceed a certain limit, 15% above the median salary for their region. This works out to $ 90,300 for households of one to four people in most areas. The income limits for loans issued directly by the USDA are even lower, as the law requires that at least 40% of funds from loans issued directly be allocated to loans to low-income households.
How USDA Loans Work
The USDA offers three different types of home loans. The most popular USDA loan is the Section 502 Secured Loan, which allows homebuyers to finance up to 90% of the purchase price of their home. These loans are issued by USDA approved lenders and insured by the agency, similar to the number conventional mortgages are supported by Fannie Mae and Freddie Mac– government sponsored entities that buy most conventional mortgages from lenders and bundle them into bonds for sale to investors.
In addition to the USDA Guaranteed Loan program, the department also offers two direct issuance programs: the Section 502 Direct Home Loan and the Section 504 Home Improvement Loan. These loans can be used by low-income borrowers for finance more of the purchase or improvement of their home. However, borrowers must meet property, income and mortgage insurance requirements. Loans are also subject to size limits and rate requirements which vary by program.
USDA loan eligibility
While loans from the USDA Rural Development Program can be extremely beneficial, it type of mortgage is only available to certain borrowers and in certain regions.
Some specific USDA mortgage loan requirements include:
- The loan must be used for a primary residence
- The property must be located in a rural area, defined as having less than 35,000 inhabitants
- Borrowers must meet down payment requirements (down payment may be zero for some programs)
- Borrowers don’t need to have a minimum credit score to qualify, you need to be able to show that you can manage your debt
- Borrowers must not have income exceeding pre-established limits
- Borrowers must have a debt-to-income ratio of 41% or less
Income limits for USDA loans vary by program and region. For secured loans, borrowers’ incomes cannot exceed 115% of their region’s median income ($ 90,300 for 2020 in most regions). Income limits for direct issue loans are much lower – up to 50% of median income in some areas.
USDA loan rate
If you can qualify for a USDA loan, you can enjoy one of the biggest benefits of a loan – potentially lower interest rates than conventional mortgage products. USDA loans are available for borrowers whose credit rating is low enough that they cannot qualify for a conventional mortgage. And, while other agencies like the FHA also offer home loans to low-income borrowers, USDA loan rates tend to be 0.5% to 0.75% lower than those available elsewhere.
Rates on loans issued by USDA approved lenders guaranteed by the agency (but not issued directly) are determined by individual lenders based on your income, credit rating, and other factors. . However, these rates can be extremely beneficial for eligible borrowers.
USDA home improvement loans are actually a combination of grants, which don’t have to be repaid, and loans with an interest rate of just 1%.
Types of USDA Loans
The USDA offers three different types of loan programs for eligible borrowers. All loans must be issued on primary residences in rural areas to eligible borrowers.
- USDA Guaranteed Loans. These loans are made under Section 502 of the 1949 Housing Act and are issued by lenders approved by the USDA and guaranteed by the agency in the event of borrower default. To be eligible, a borrower’s income cannot exceed 115% of the median income in their region. There is no maximum stated on these loans, but loans over $ 300,000 to $ 400,000 are rare.
- Direct issue loans. These loans are also made under Section 502 of the 1949 Housing Act. They are issued directly by the USDA, rather than through intermediary lenders. To qualify for a USDA loan, a borrower’s income cannot exceed 50-80% of their region’s median income.
- Home improvement loans. Home renovation loans are granted under section 504 of the Housing Act. It is actually a combination of loans and grants that can provide borrowers up to $ 27,500 ($ 20,000 in loan form; $ 7,500 in grants). The loan part is repaid over 20 years at 1% interest. To be eligible, applicants must have a family income below 50% of their region’s median income.
In addition to these three basic programs, the USDA has several lesser-known loan programs, such as Section 523 loans, which are used to acquire home sites. Some of these loans can be used in combination with each other – 523 loans can be used in combination with 502 loans, for example.
How to Apply for a USDA Loan
The process of obtaining a USDA loan is very similar to the process of taking out a conventional loan. However, a few additional steps are required to obtain a USDA loan in order to confirm eligibility, as well as some potentially unique documentation, such as well testing, which is unique to rural property.
1. Check the eligibility of the property
Loans are only available in rural areas with less than 35,000 inhabitants. So, before applying for a USDA loan, it is a good idea to verify the eligibility of your property using the USDA Eligibility Card.
2. Check income eligibility
Your ability to qualify for a loan will depend on your household income relative to the median income in your area. The USDA provides tools to help you verify your income eligibility depending on your region.
3. Choose a lender
If your income is less than 50 to 80% of the median income in your area and you want to apply for a direct issue loan, you will need to apply directly to the USDA. If you are applying for a secured loan, you will need to choose a USDA Approved Lender to apply.
4. Complete the application
The USDA home loan application process varies depending on the lender. If you are applying for a direct issue loan, you will need to go through the USDA Application Process. However, when applying for a USDA secured loan, the process is specific to each lender.
5. Provide documents
Whether you are applying directly to the USDA or through a private lender, you will need to provide certain items to document things such as your residency and income.
Here are specific examples of documents you will need to provide:
- State photo ID
- Social security card
- One month of your most recent pay stubs (if you work full time)
- Tax returns for the last two years (if self-employed or retired)
- Copy of serious money Check
- Personal financial statement
- Home insurance police quote
- Termite Inspector Report
If the home you are purchasing has a well water supply, you may also need to produce the results of a well test. The results of a septic test may also be necessary in certain circumstances.
USDA Home Loan: Mortgage Insurance Required
When you get a USDA loan, you need to purchase mortgage insurance that will cover your mortgage payments if you lose your job and are unable to pay. There are two different types of mortgage insurance premiums required by the USDA:
- 1% of the loan amount due at closing
- 0.35% of the initial loan amount per year
USDA Home Loan vs. a conventional mortgage
Unlike a conventional mortgage, USDA home loans have the potential to pay 0% down payment, as well as below market rates. In some cases, there are borrowers who are eligible for USDA loans who would not qualify for conventional mortgages (without purchasing private mortgage insurance).
Conventional mortgages, on the other hand, have no income limit to qualify. These loans are also available for properties of all types, not just those found in rural areas.
USDA Home Loan vs. an FHA loan
Compared to USDA loans, FHA loans are not limited to rural areas. And, like USDA loans, FHA loan programs require mortgage insurance, but the rates are much higher: 1.75% at closing and 0.45% to 1.05% per annum.
Benefits of USDA Loans
- The mortgage can finance up to 100% of the purchase price of a house
- Below market interest rates
- Some loan programs are partly made up of grants
Disadvantages of USDA Loans
- Only available in rural areas
- The mortgage can only be used for main residences
- Household income must be under the limits