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What is USDA loan?

USDA loans were created by the United States Department of Agriculture (USDA) to improve the quality of life in American rural communities. The Department of Agriculture plays a financial role in making funding available to develop rural areas of the country. This has allowed first-time homeowners and home buyers who may not qualify for a traditional loan to use this program to buy a house as USDA loans do not require a down payment and have low, fixed interest rates.

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What is USDA?

USDA stands for the United States Department of Agriculture, which is a cabinet department of the Executive Branch of the US government. It is currently headed by Sonny Perdue, who was sworn in as the 31st Secretary of Agriculture in April of 2017. The Department of Agriculture’s mission is to constantly invest in infrastructures, businesses, and people to keep food production and processing up-to-date. Since these activities often take place in out-of-the-way rural places, USDA loans were created to encourage individuals to take part in the rural economy.

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USDA Eligibility

What is the USDA Rural Development Agency?

The USDA’s Rural Development Agency oversees a wide range of programs to provide loans, loan guarantees, and grants to update rural infrastructure and to help people thrive in those areas. Without a critical mass of people living in rural areas, certain portions of the food supply chain would lack the labor and expertise to operate at sufficient capacity.

The USDA Rural Development Agency provides more than fifty assistance programs. The Department of Agriculture estimates that those Rural Development programs will administer $38 billion dollars’ worth of financing to communities in the 2017 fiscal year, in the form of loans, loan guarantees, and grants. In total, the USDA Rural Development Agency currently maintains a portfolio of loans worth $216 billion.

Those are big numbers, but they boil down to individual stories of people who have gotten the help they need to live the rural lifestyle they envision, in communities that contribute mightily to America’s food supply. If you think you might fit that description, you should look into how Rural Development loans might help you.

USDA Eligibility

In order to qualify for USDA eligibility, you must meet the following requirements:

  • Must be willing to occupy the home as your primary residence
  • Must be a US citizen or permanent resident with a Green Card
  • Must be able to financially handle the debt of the loan
  • Must be in good standing with all federal programs
  • Must be willing to prove a positive history of paying credit obligations on time
  • Must be willing to purchase a property in a USDA eligible area

While USDA loans have no down payment requirements, applicants with assets higher than the USDA standard limits may be required to use some of their own money upfront.

How to Apply for a USDA Loan

Before you consider getting a USDA loan, it’s crucial to know what type of documentation you need, how to get pre-approved, and which types of property qualify. Here are the steps on how to apply for a USDA loan:

While the process to apply for a USDA loan is similar to what you would go through with a traditional loan, you’ll need to gather specific eligibility documents and financial statements before you can get started. According to the United States Department of Agriculture, required documentation can include:

  • A credit report: Like any other loan, USDA loans require good or decent credit.

  • Proof of citizenship: You’ll need to prove your citizenship, either with a social security number, birth certificate, or some other type of documentation.

  • Identification: A driver’s license or another government-issued form of identification is required.

  • Proof of intent to occupy: To qualify for a USDA loan, you must intend to treat the home as your primary residence.

  • Financial information: Plan to share intimate details of your financial state, including household members, income, expenses, and debt. You will also need to supply bank statements and any other financial statements required by your lender.

Before you apply for a USDA loan, you should consider getting pre-qualified and pre-approved. During this process, your lender will verify your eligibility and calculate your maximum loan amount before you begin searching for a home.To become pre-approved, you’ll need to work with a USDA-approved lender who is certified to offer USDA loans. During your initial interview, the lender will assess your financial situation to determine eligibility. To qualify for a rural development, you need:

  • To be a U.S. citizen

  • To be unable to qualify for traditional home financing

  • A monthly payment (including principal, interest, taxes, and insurance) that is less than 29 percent of your monthly income

  • 24 months of proven work history at minimum

  • Good or decent credit, with no accounts in default or collections

As you search for a property that’s acceptable for a rural housing loan, keep in mind that metropolitan areas are generally excluded. You may find a rural area in or around a suburb of a larger city, however. The best way to search for areas with USDA-eligible homes is to explore the Rural Development Agency’s website. On the website, you can search by zip code or city to find areas where USDA loans may be accepted.Also, keep in mind how the USDA defines a rural area:

  • Open country that is not part of, or associated with, an urban area

  • Any town, village, city, or place, including the immediately adjacent densely settled area, which is not part of, or associated with, an urban area

  • Is rural in character with a population of less than 10,000

  • Is not contained within an MSA and has a population above 10,000, but below 20,000, and has a serious lack of mortgage credit for lower and moderate-income families

Once you’re ready to see eligible homes in person, it’s time to select a realtor. Since you’re considering specific properties that must meet USDA eligibility requirements, it’s crucial to work with a realtor who has experience with USDA loans.Make sure to see as many eligible homes as possible, taking special care to inspect the homes for quality of craftsmanship, potential problems, and suitability. Since you should be pre-approved for a USDA loan at this point, your realtor can also help steer you toward properties that fit within your pre-approved price range.

Once you find the home you’ve been dreaming of, you’ll sit down with your realtor to write a formal offer. Depending on the situation, you may offer less than the asking price or cite specific terms for the home sale.

It’s possible the homeowner will accept your offer outright, but counter-offers are also common. Either way, plan on negotiating back and forth with the seller (via your realtor) until an agreement is reached.

Just as if you were buying a home with traditional financing, you’ll need to set up a home inspection for the property you intend to buy. Make sure you hire a home inspector who is familiar with the Rural Development Agency’s standards. If you’re unsure how to find one, your realtor or USDA-approved lender should be able to help.Since USDA loans offer special protections from the federal government, homes must be inspected thoroughly for qualification. As the USDA notes, homes that qualify must be:

  • Structurally sound

  • Modest in size, design, and cost

  • Able to provide safe and sanitary living conditions

  • Able to meet specific government-mandated thermal requirements

  • Free of hazards

  • Low maintenance, without a need for ongoing or excessive upkeep

While it’s common for USDA homes to need repairs, major repairs will need to be completed by the seller before a rural development loan can be processed.

While the closing process for USDA loans is similar to that of a traditional loan, the Rural Development Agency does impose an extra requirement for individuals participating in this program. Per the Rural Development Agency, new homebuyers who use USDA loans are required to complete homeowner education training prior to the closing of their home.Once you’ve finished your training, and provided the home you’ve chosen meets USDA eligibility requirements, you may be ready to close your loan. Since you’re already working with a USDA-approved lender, the team of professionals you’ve selected will help with this final step.

Outside of special circumstances, the closing process is simple. You’ll meet at your realtor or title company office, look over final closing documents for your loan, sign final documents, and close the loan. Make sure to read through all paperwork regarding your loan and home sale, taking special care to check for typos and mistakes. Once closing is completed and you’ve signed all required paperwork, you’ll receive the keys to your property and assume ownership.

Pros and Cons of USDA Loans

Benefits of USDA Loans

  • Buying a new or existing home
  • Zero down payment
  • Low interest rates
  • Closing costs may be included in the loan

Disadvantages of USDA Loans

  • Household income must be moderate, low, or very low
  • Home must be your primary residence
  • Home must be within an eligible area
  • Must have a reliable source of income (going back 24 months or more)

Remember, you will still be borrowing from a private lender and the government is only guaranteeing your loan. That means you must get quotes from multiple mortgage lenders if you want to be sure you’re getting a great deal.

USDA Mortgage Rates

USDA mortgage rates tend to be lower than other government-backed mortgage loan rates, which make them quite attractive to prospective homebuyers. Below is how USDA loan rates are determined:

  • You live in a low to moderate-income home
  • You have a particular credit score and credit utilization ratio
  • The house you want to purchase will be your primary residence
  • You agree to pay a 1% guarantee fee that typically gets rolled into the mortgage and an annual fee of .35%. The annual fee typically is added to your monthly mortgage payment.

These factors are essential in determining your overall mortgage rate. The Rural Development Agency gives a baseline interest rate, set at 2.875% in 2016. However, you may be able to qualify for various income-based subsidies that can lower the interest rate on your mortgage to as low as 1% depending on your particular situation.

USDA Loan Closing Costs

If closing cost and fees are not covered by the 100% guaranteed rural housing loan, what do you need to pay for when you get one? Here are thirteen expenses that you will be asked to pay:

  • USDA funding expense: To fund the USDA mortgage, you pay a 1.0 percent upfront guarantee fee included in your USDA loan closing costs. This expense is also charged yearly to your home loan at a 0.35 percent annual rate. This is just like paying for mortgage insurance; they just call it something different.
  • Processing expense: Putting an application together and submitting it for underwriting takes time. So, your lender or broker charges a processing fee to cover that time.
  • Origination expense: Underwriting USDA loans also takes time on your lender’s behalf. The loan origination fee of 1-2% of the total mortgage amount covers that process and time.
  • Credit report expense: Pulling your credit score costs money, and lenders need to know if your creditworthiness meets the program’s guidelines.
  • Appraisal expense: A third-party expense for confirming the home you are buying is worth the home loan amount.
  • Tax expense: A third-party expense confirming you pay the taxes on your new home.
  • Per Diem interest expense: Interest on USDA loans starts on the day that you close. The Per Diem interest expense is the interest from the day you close until the end of the month. This is why closing toward the end of the month will reduce your total USDA loan closing costs.
  • Homeowner’s insurance expense: Your new home will be an asset when it is paid off. Keeping up with its maintenance and unforeseen repairs will enhance your long-term equity and market value. Paying the homeowner’s insurance expense is one way that you are able to do this.
  • Title expense: No one wants to come across title issues with a home they are buying. The title expense covers the confirmation that the title on the home you are purchasing is free from liens.
  • Recording expense: A third-party expense for transferring the deed of your new home to your name.
  • Notary expense: A third-party expense for any notaries needed during the closing process.
  • Miscellaneous expense: Lenders and brokers may charge you miscellaneous fees. They will need to be reasonable and approved by the Rural Development Agency.