The Ins and Outs of USDA Home Loans


Published on: Oct 05, 2019 | Updated on: Feb 06, 2020

USDA home loans can be an option for low-income borrowers without a down payment

The U.S. Department of Agriculture home loan program is a fantastic route for some prospective homeowners to obtain a mortgage with no money down and at a competitive interest rate.

The program has some quirks, though, so read on to learn the basics, how to qualify, and what it will cost you.

Zero money down: the cornerstone of USDA loan programs

The USDA offers a handful of lending programs to assist low- and moderate-income borrowers with obtaining mortgage financing. Central to every program is reducing the burden of a large down payment.

One USDA program funds loans directly to low- and very low-income individuals with no other means of securing a loan, but for most borrowers, the easiest way to obtain a loan from the department is to go through a bank that specializes in the USDA program. The bank will assist you with the paperwork requirements, ensure you qualify, and help you from start to finish in the process.

Going this route means you will technically be taking advantage of the USDA's guaranteed loan program. The bank will make the loan, and then USDA will work with the bank behind the scenes to allow you to take advantage of the program's benefits.

The USDA maintains a list of approved banks that offer sanctioned loans. You can check for a bank in your area by clicking here.

Once you are approved for a USDA loan, you'll receive a mortgage loan for 100% of the purchase price of your new home. The loan will have a competitive mortgage rate, no prepayment fee, and a payback period comparable to that of a conventional mortgage.

If you meet the qualification standards and don't have the cash for a large down payment, this program could be your ticket to buying your very own home.

Do you qualify?

The qualification requirements for a USDA loan are fairly straightforward, but unfortunately, they will prevent many urban dwellers from obtaining the loan.

These programs were designed to encourage rural development, meaning city homes are excluded. The USDA has an interactive, online tool to help you determine if a given property is eligible. You can see if your prospective home qualifies by clicking here.

If the property qualifies for the program, the next step is to determine if you qualify as a potential borrower. The program requires borrowers to meet certain income requirements. Remember, these programs are designed to assist rural development in low- to middle-income areas. If you work on Wall Street and live in Manhattan, you're not going to qualify.

Beyond the property and income requirements, the USDA also requires that you:

  • Agree to personally occupy the dwelling as your primary residence
  • Be a U.S. citizen, U.S. noncitizen national, or qualified alien
  • Have the legal capacity to incur the loan obligation
  • Have not been suspended or debarred from participation in federal programs
  • Demonstrate the willingness to meet credit obligations in a timely manner

From the USDA

You must have sufficient income to make your monthly payments and a credit score that qualifies under the specific bank's standards. Generally speaking, that means a credit score of 620-640 or better. To find out the specific requirements for income and credit history in your area, contact a local bank that offers USDA loans. 

The catch: USDA home loans come with substantial fees

USDA loans aren't free. The program charges a fee of 1% of the loan amount upfront. Don't worry, though -- that fee can be added to the loan balance, so you won't have to write a big check to cover it at loan closing. The fee is then paid off as part of your monthly payment over the life of the loan.

The fees, unfortunately, don't stop there. As of 2019, the USDA charges a 0.35% annual fee on the loan amount. Again, the department allows borrowers to pay that fee over time, but the annual fee must be paid off over 12 months. That's different than the up-front 1% fee, which is paid off over the entire term of the loan -- potentially 30 years. 

For example, if you borrow $250,000 with a USDA loan, you'd be required to pay 1%, or $2,500, upfront. That fee would be added to the loan amount, and your monthly payment would be calculated based on a $252,500 loan. Assuming a 5% interest rate, that extra $2,500 would increase your payment by just $13 per month. 

Your annual fee, on the other hand, would be 0.35% of your $252,500 loan amount, or $884. That fee must be paid over the course of the following 12 months, meaning it will increase your monthly payment by $74. The following year, that year's fee will be calculated, and you will pay it over the subsequent 12 months. This process continues for the life of the loan.

That's a substantial increase in your payment, so you should carefully consider if you can truly afford not only the principal and interest payments, but also this large annual fee, before signing on the dotted line.

USDA home loans are great, but they aren't for everyone

If you have the savings to make a down payment, then a USDA loan is probably not for you because of the fees involved. Likewise, if you hope to buy an urban property, it most likely won't qualify for a USDA loan. 

However, if you live in a rural or suburban area, have a good credit score, and produce sufficient monthly cash flow to make your payment and the USDA's annual fees, then this program can be a fantastic opportunity to buy a home without the burden of a huge down payment.

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