USDA Loan Defined
These are mortgages backed by the U.S. Department of Agriculture. They are designed to help low- or middle-income borrowers buy homes in non-urban areas. USDA loans are not actually made by the government; they are made by traditional mortgage lenders but receive a guarantee from the USDA that makes them less risky for lenders.
Beyond offering 100% financing on a home, USDA loans also allow borrowers better interest rates than other low-down payment programs. This is because the USDA subsidizes rates to encourage homeownership in more rural areas. In most other ways, USDA loans are like traditional loans. They are fully amortized (no “balloon” payments), have fixed interest rates and normal closing costs, and they include no prepayment penalties. While they are often used by first-time homebuyers, even repeat buyers can take advantage of them.
USDA loans do require mortgage insurance though. This is insurance that protects the lender against the borrower defaulting. The fees amount to 1% of the loan size at the time of closing plus another 0.35% annually of the remaining loan principal balance. For example, someone buying a home for $100,000 would pay $1,000 when the loan closes (can be included in loan amount) and another $29.17 monthly thereafter.
In order to qualify for a USDA loan, borrowers must:
- Meet the USDA income caps.
The caps are set at 15% above the local median salary. For example, if the median income of a community is $60,000, then the maximum income of the borrower could be $69,000.
- Have a reliable job and income.
Borrowers will be required to provide tax returns as proof.
- Have a minimum FICO credit score of 640.
Some lenders may have slightly different criteria on this point.
- Have a debt-to-income ratio of roughly 40% or less.
- Buy a property in a “rural" area.
These are typically defined as places with populations of 20,000 or less.
Borrowers can find out which areas qualify under the USDA program by searching the USDA eligibility maps (https://eligibility.sc.egov.usda.gov/eligibility/welcomeAction.do?pageAction=mfhc.) While the aim of the program is to help stimulate growth in “rural” areas, most of the country actually falls under that definition with 97% of the US map qualifying.
Although the USDA loan will not suit the needs of every borrower, it is a little-known program that can help many potential homeowners take advantage of low-rates and no down payment.