USDA loans are loans provided by the United States Depart of Agriculture, and more specifically, their Rural Housing Service. This service enables potential homebuyers to purchase a home despite their low income or less than favorable qualification factors. This loan offers great terms, easy to qualify for requirements, and easy to afford payments. The most important factor regarding financing method is the need for the home to be located in a rural area. The USDA offers this program in order to give certain areas of the United States the economic stimulation it needs by providing lucrative financing in only these areas.
No Down Payment
USDA loans are among one of the very few programs that do not require a down payment. For first time homebuyers, this is a great way to get into a home. Because most programs require between 3 and 20 percent down on the home to secure financing, it can be difficult to purchase a home. Even 3 percent of a low purchase price of $150,000 equals $4,500, an amount that is hard to come up with if you have never owned real estate and are just starting out. Without equity in a previous home or investment, it could take people that are just starting out in life quite a while to come up with the money, which is why this program is so beneficial for this group of people.
Closing Costs in the Loan
Another positive for first time home buyers using USDA loans is the ability to roll the closing costs into the loan. Every lender charges different costs in order to process a loan. Some lenders will charge an origination fee while others will not. Other charges are pretty standard, such as underwriting, processing, credit report fees, title insurance, title search, and closing fees. The amount each lender charges can differ though. Depending on the loan amount, you could be looking at closing costs that total several thousand dollars. For a first-time homebuyer that can be too much to afford, which is why having the ability to roll the costs into the loan is a nice feature of the USDA loan.
Low Qualification Requirements
In general, the USDA loan is the easiest loan to qualify for as long as your income falls in line with the USDA requirements. Unlike most other loans where you want to make more money in order to qualify for the loan – with USDA loans, the less you make, the more likely you are to get the loan. Every area has its own maximum amount of income you can make in order to qualify. In general, your total income after the allowed deductions, called the adjusted income, cannot exceed 115 percent of the median income for your area. The exact amount for each city/county can be found on the USDA website. This enables low to moderate income families to afford a home.
The deductions allowed from your gross monthly income depend on who lives with you. For example, if you have children under the age of 18; a full-time student over the age of 18; or a disabled person living in your home, you can deduct $480 for each person that qualifies. In addition, if anyone over the age of 62 lives in your home, you can deduct $400 for each of them. Your monthly income after the deductions is then used for qualification purposes. This is great for first-time homebuyers because typically those just starting out in life have lower income than consumers that have been around for a while and have owned several homes. Conventional loans and even FHA loans make it a little harder for first-time homebuyers because of the higher income requirements and the need for some type of down payment.
Generally, you will need a credit score of at least 580 to qualify for the loan, however. If your score is lower than 620, but higher than 580, you will be required to show a 12-month housing history with no late payments in order to qualify. This housing history can be rental history, which is great if this is your first home purchase. If your score is higher than 620, you will not need to worry about housing history or any credit issues reporting on your credit report.
Last, but not least, the USDA cares about your debt ratio. They want you to be able to afford the loan without the risk of default. In order to ensure affordability, they require your front-end debt ratio (principal, interest, taxes, and insurance payments) to 29 percent or less of your adjusted monthly income and your back-end ratio (all debts plus your mortgage) to total less than 41 percent of your adjusted income
In general, USDA loans are among the easiest to qualify for when purchasing a first home. The key is to have good credit, ensure that your debt ratio is in line and that you can show proof that you can afford the payments. In the end, it is a great program to get you into homeownership and even beyond that as long as you stay in a rural rea.
Justin McHood is America's Mortgage Commentator and has been providing expert mortgage analysis for over 10 years.