Mortgage insurance has a bad reputation. Who wants to pay more on their mortgage payment than they already do? Probably not many people do. But, in some cases, this insurance helps. It is not a way to punish you. It is a way to help you secure financing. In the case of the USDA loan, it helps fund the United States Department of Agriculture. This way they can provide you with the opportunity to have a USDA loan. Here we look at the different types of insurance and what you may owe.
Funding Fee for the USDA Loan
There are two types of fees for the USDA loan. The first one you will come across is the funding fee. The idea is to pay this fee at the closing. Right now, it equals 1% of the loan amount. On a $150,000 loan, you would owe $1,500. But, if you can’t pay the fee upfront, you can roll it into your loan amount. It doesn’t affect your LTV either. Since USDA loans don’t require a down payment, you will be over 100% of the value of the home.
Annual Mortgage Insurance on the USDA Loan
The second type of fee is the annual mortgage insurance. This is a monthly fee. But, it is calculated for the year. The USDA bases the amount on your average outstanding principal balance for the year. Right now, you pay 0.35% of this amount.
For example, on the $150,000 loan, you would owe $525 for the year or $43.75 per month. Your loan servicer pays the annual bill for you. To make the payments more affordable, they divide the annual fee up over the 12 months. This is how you pay $43.75 per month on a $150,000 loan. The amount you pay decreases as your principal balance decreases. Each year you will pay less. Even though you pay it for the life of the loan, the amount becomes negligible near the end of the term.
What the Premiums Pay For
The USDA insurance fees help the USDA continue to provide loans for rural homeowners. The USDA guarantees the loans they approve. This means they back the lender up in the face of default. If you were to stop paying your USDA loan, the bank would foreclose on you. This means you lose your home. It also means the lender loses a lot of money. They may recoup some of it when they sell the home, but not all of it. Rather than letting the lender suffer, the USDA pays back a portion of what the lender lost. This way lenders can have more lenient guidelines and help rural areas flourish. The money collected from the funding fee and annual insurance helps the USDA guarantee the loans.
Qualifying for a USDA Loan
Not everyone will qualify for a USDA loan. The USDA created the program to help low and very low-income families afford a home. It is only for homes in rural areas. This brings up two conditions you must satisfy. Without satisfying these conditions, you wouldn’t be eligible for the program. This is different than qualify for the program. First, we look at the eligibility requirements.
The USDA loan is unique because the more money you make, the less likely you are to be eligible for the program. The USDA looks at household income. This differs from most loan programs as well. Usually, they just look at the borrower and co-borrower’s income. If your household income exceeds the limits for the area and your family size, you don’t qualify. You can find out the limits for your area, by visiting the USDA’s income limits page.
In addition, you must buy a rural property. Determining the rural boundaries is difficult without the USDA’s map, though. They consider rural areas those with a low population as long as they are outside of the city lines. The USDA’s website can help you determine which areas are rural as well.
Qualifying for the USDA Loan
Once you know you are eligible for the program, you can then determine if you qualify. This is the same process you would go through for any other loan. You need a high enough credit score and low enough debt ratio. The property also needs to pass the appraisal and have a high enough value. Following are the simple USDA guidelines:
- The USDA has liberal credit score requirements. But, the higher your score, the less evaluation underwriters must do. Scores over 640 are considered “high” for USDA purposes. Anything below that score and you may have to supply compensating factors.
- Debt ratios for USDA loans are 29/41. If you need more than 29% of your gross monthly income to cover your mortgage payment, you may need compensating factors. The same is true if you need more than 41% of your gross monthly income to cover your monthly debts.
The USDA considers compensating factors to be things like a high credit score, assets on hand, or a lower LTV. This means you put money down on the home. This isn’t required, but it can help your chances for approval.
If you have a bankruptcy or foreclosure, it must have been discharged for at least 3 years. You must also not have any new collections over the last 12 months. During that time, you may also only have one 30-day late payment.
The Benefits of the USDA Loan
USDA loans allow you to borrow 100% of the value of a home. You also have the benefit of low interest rates and closing fees. The USDA guidelines are also pretty flexible. Borrowers with low income often have an easy time securing a USDA loan. You must show financial responsibility. As a reward, you may be eligible for the Direct or Guaranteed USDA program. The Direct program may provide subsidies to help make homeownership affordable. This program is for very low income families. All others may be eligible for the Guaranteed Program.
The largest stipulation is you can’t be eligible for any other loan program. You also can’t own any other suitable housing. The USDA program is meant to help those who can’t find suitable housing because of financial constraints.
The USDA started the program to help families as well as areas. Rural areas often struggle financially because of the lack of stimulation. With the help of flexible financing, more families can own a home. This helps rural areas flourish and helps families find suitable housing. Even though you pay mortgage insurance, it is often lower than any other program.