The U.S. Department of Agriculture (USDA) has created loan options geared toward helping low-income borrowers achieve the goal of homeownership. If you think that a USDA loan might be the right choice for you, keep reading. We'll go over what USDA loans are, how they work, and how you can qualify for one of your own.
What are USDA loans?
USDA mortgages are loans designed to help make housing more affordable for those buying homes in rural areas. This type of rural housing loan is backed by the USDA, just as the U.S. Department of Veterans Affairs (VA) backs VA loans for veterans.
How do USDA loan programs work?
Now that you know what USDA loans are, let’s see how they work. There are three loan programs to choose from, depending on your goals and financial situation.
USDA guaranteed loan
Most USDA loans are guaranteed loans. With a USDA guaranteed loan, the loan is issued by an approved lender but guaranteed by the USDA. This means that the USDA agrees to take responsibility for the loan if the borrower defaults. In this respect, USDA loans are similar to an FHA loan or a VA loan.
In exchange for that guarantee, participating lenders are willing to loosen their qualifying requirements. Opting for a USDA-guaranteed loan means that you may no longer be facing a down payment requirement, and you may get access to a better interest rate than you would otherwise. However, be aware that you will still face a mortgage insurance requirement.
USDA direct loan
In contrast, a USDA direct loan, just as it sounds, is issued directly by the U.S. Department of Agriculture. These loans are available to borrowers who have an income below the low-income limit for the area in which the home is located. It’s an option for borrowers who may otherwise be out of options. With available payment-assistance programs included, the interest rate on a USDA direct loan can often be as low as 1%, and the loan term can be as long as 33 years (or even 38 in some cases).
Home repair loans and grants
The USDA also offers a selection of home repair loans and grants designed to help elderly or very low-income homebuyers make repairs that ensure that their homes are safe and sanitary. However, these loans and grants can also be used to make a home more accessible or to make it more energy-efficient so the homeowner can save on utility costs.
USDA loan eligibility and credit requirements
The home you plan to buy must become your primary residence. It cannot be a vacation home or an investment property.
The homebuyer must be a U.S. citizen or a legal permanent resident.
To take advantage of this loan option, the home you're thinking of buying must be located in an eligible rural area. You can see whether a property qualifies by visiting the USDA's eligibility site.
Since the USDA loan program is meant to help borrowers who demonstrate an economic need, your household income cannot be more than 115% of the area's median income. However, you'll also need to prove that you have enough steady income to make your monthly payment without incident. Typically, lenders look for at least 24 months of consistent income.
Eligible borrowers with a credit score of at least 640 can qualify for a streamlined loan process. However, you still may be able to qualify if your credit score is lower. You'll just need to provide more paperwork.
Pros and cons of a USDA loan
The biggest benefit of this loan option is that it can help make homeownership a reality for low-income homebuyers.
Not having a down payment requirement means that you only have to save up to pay closing costs. In addition, depending on your income, the USDA also has access to payment-assistance programs that can help you secure a lower interest rate.
One downside of a USDA loan is that it has a mortgage insurance requirement called a "guarantee fee." This fee is charged on both an upfront (about 1% of the loan amount) and an annual basis (about 0.35% of the loan amount).
The Millionacres bottom line
If you meet the income limit and you're willing to live outside a major metropolitan area, a USDA loan is a great option to help you achieve the goal of homeownership. While this guide can get you started on figuring out whether a USDA loan is right for you, ultimately, your best bet is to talk to a USDA lender. They can help you understand the loan options for your specific financial situation.