You might gravitate toward a USDA or FHA loan if you’re a low- or moderate-income borrower. But what other factors make USDA loans and FHA loans so appealing? Let’s find out so you can determine the best fit for your needs.
Who’s Eligible For A USDA Or FHA Loan?
First of all, what are USDA loans and FHA loans, anyway? The U.S. Department of Agriculture (USDA) and the Federal Housing Administration (FHA) are the two federal government agencies that back USDA loans and FHA loans. These government agencies don’t actually give you a loan directly – they protect your lender against loss if you default on your loan.
USDA and FHA loans differ in their eligibility requirements. A few of the biggest eligibility factors include the location of the home and your income level, credit score, debt-to-income (DTI) ratio and down payment amount. Let’s break down each of these qualifications.
USDA Loan Eligibility Requirements
USDA loans are mortgages designed to stimulate homeownership and the economies of rural areas across the U.S. You can only take advantage of a USDA loan if you agree to purchase a home in a qualified rural area. The location must meet certain guidelines and meet state property eligibility requirements. Here are some other quick facts about USDA loans:
- The USDA has strict rules regarding income levels. These rules depend on the location of the home you’d like to buy and the number of people in your household. You’re ineligible for a USDA loan if your household income exceeds 115% of the median income for your area. Select your state to see the income limits for the county where you plan to purchase your home.
- You must have a credit score of at least 640. Your credit score is a three-digit number that shows how consistent you are in paying back debt.
- Your debt-to-income ratio (DTI), or the amount you spend versus how much income you have coming in, must be fairly low, around 50% or less.
- USDA loans are zero-down loans, which means you’re not required to have a down payment.
FHA Loan Eligibility Requirements
FHA loans are also for low- to moderate-income Americans. You may qualify for an FHA loan through an FHA-approved lender if you’re a first-time home buyer or if you haven’t owned a home for at least 3 years.
- There are no income requirements for FHA loans, but you do need to prove your income and that you’ll be able to pay your mortgage and insurance each month.
- You must have a minimum credit score of 580 in order to be eligible for an FHA home loan.
- You may still qualify for an FHA loan if your DTI is high compared to your income, particularly if your credit score is higher.
- You’ll need to make a down payment of 3.5% if your credit score is 580 or higher. You can still get an FHA loan if you’ve got a credit score in the 500 – 579 range, but you’ll need to come up with a 10% down payment. (Rocket Mortgage® requires a 580 minimum credit score to obtain an FHA loan).
What Else Makes USDA Loans And FHA Loans Different?
USDA and FHA loans are run by two different government agencies, which means they have different application, underwriting, appraisal, lending amount, mortgage insurance and interest rate requirements. Let’s check these out.
Application Process And Underwriting
Regardless of which mortgage product you choose, the first step to homeownership is applying for preapproval, and that's true of both USDA and FHA loans. The preapproval shows home sellers you’re serious about buying and assures them you’ll be approved for the mortgage.
You may also have the option of getting a prequalification, where the lender bases the decision on information that you provide. With a preapproval, the lender goes one step further by running a report on your credit history and requiring documentation such as tax documents and pay stubs to get an accurate picture of how much home you can buy. Getting a USDA or FHA preapproval or prequalification will kick off the mortgage underwriting process so you can shop for a home without worrying about whether you’ll actually be approved.
The process of getting a USDA loan typically takes longer than an FHA loan, largely because USDA loans are underwritten twice, first by the lender and then by the USDA. To have the loan automatically underwritten by the USDA, you’ll need a credit score of 640 or higher. Manual underwriting, which adds time to the loan closing, is reserved for those with scores under 640. The time it takes for underwriting depends on where you’re planning to purchase and how much backlog the USDA agency in that area has. Expect a USDA loan to close in 30 to 45 days.
An FHA loan can take 30 to 45 days to close, depending on how long the application and underwriting process take. The application and origination portion of the loan process may take 1 to 5 business days. Processing and underwriting also depend on how quickly you provide necessary documentation, such as your employment status, income, tax returns and bank statements. It's also dependent on how many parties are involved. If you work with a mortgage broker that isn’t approved to sell FHA loans, they may have to bring another party into the transaction, which could delay the process.
Maximum Lending Amounts
FHA loans have maximum loan limits. In other words, you cannot buy a house that exceeds the amounts specified by the Department of Housing and Urban Development (HUD). The maximum FHA lending amount in 2019 for lower-cost areas is $314,827 and is up to $726,525 for high-cost areas.
Unlike FHA loans, there are no set loan limits for USDA loans. Instead, the maximum amount is set based on your ability to qualify for a USDA loan.
The appraisal is one of the most important aspects of the mortgage approval process, regardless of whether you apply for a USDA or FHA loan. An appraisal assures the lender that the house is sold at fair market value. It's a requirement for both types of loans and is vital in protecting you and your lender.
In addition to ensuring that the home is properly valued, an appraiser for a USDA loan needs to confirm that the property is located in a rural area determined by the USDA and is safe to live in. The home’s property value can’t be more than 30% of the value of the home, and it must have access to a street and properly maintained roads.
An FHA appraisal also has special requirements beyond an assessment of the value. The appraiser must determine the current market value of the property as well as ensure that the home meets the standards for health and safety set forth by the Department of Housing and Urban Development.
Neither home loan requires an independent home inspection, but it is encouraged as a way to spot any problems. Major issues spotted by an inspector need to be fixed before the loan can close.
USDA loans and FHA loans have completely different down payment requirements. An FHA loan requires you to make a down payment of 3.5% if your credit score is 580 or higher. For a credit score range of 500 – 579, you’ll need a 10% down payment.
USDA loans, on the other hand, do not require you to come up with a down payment at all. That’s one of the most appealing factors of a USDA loan.
The USDA and FHA rely on mortgage insurance to keep their loan programs growing. Mortgage insurance pays your lender in the event that you default on your loan. Even if you put 20% down, you’ll be required to pay private mortgage insurance.
FHA loans require you to pay a mortgage insurance premium (MIP) during the entire term (length) of your mortgage unless you make a down payment of 10% or more. In that case, MIP comes off after 11 years. This amount, which is about 0.45% to 1.05% of the base loan amount, is based on the mortgage term and your loan-to-value ratio, which is the amount you borrow divided by the home’s value. Your total mortgage amount and the size of your down payment are also factored into this calculation.
You’ll also pay an upfront mortgage premium for an FHA loan, which is usually 1.75% of your base loan amount.
You’ll be required to pay a guarantee fee with a USDA loan, which is paid in two different ways: at closing and each month during the whole term of your loan. The upfront fee is 1% of the full loan amount and the monthly premium. It’s paid as part of your scheduled monthly payment and is 0.35% of the unpaid principal balance of your USDA loan.
USDA and FHA loans both typically offer lower interest rates because government backing offers more flexibility with lower interest rates. Both types of loans usually have interest rates comparable to or lower than the interest rate you’ll pay for a conventional loan. However, because of the mortgage insurance requirement, both USDA or FHA loans could be more expensive over the life of the loan.
USDA and FHA loans are designed to help those in lower income brackets purchase a home, but the eligibility requirements may dictate which one is right for you. The USDA and FHA each insure their respective loans, which enables lenders to loosen their income and credit requirements.
You can only get a USDA loan if you agree to purchase a home in a qualified rural area, fall into a specific income level, and have a credit score of at least 640 and a DTI of 50% or less. You do not need to come up with a down payment for a USDA loan.
FHA loans are for low- to moderate-income Americans. There are no income requirements for FHA loans, but you do need to prove your income. You must have a minimum credit score of 580 and may qualify if your DTI is on the high side. You’ll need to have a down payment of at least 3.5%.
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