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Pros and Cons of USDA Loans: Is This Zero Down Loan Right For You?

USDA loans offer unique advantages to qualified homebuyers. Weigh the pros and cons of USDA loans to see if this mortgage is right for you.

May 1, 2022
May 1, 2022
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USDA loans are one of the few mortgage products that require zero down payment. And for those who qualify, that’s a huge advantage, freeing up cash for closing costs, moving expenses, new furniture, or even just a much-needed emergency fund.

Still, these mortgages aren't right for every buyer. We break down the pros and cons of USDA loans so you can figure out whether it's right for you.

First, the good stuff

USDA loans are government-backed mortgages insured by the U.S. Department of Agriculture (USDA). They’re meant to help low- and moderate-income borrowers buy homes in qualifying locations, including rural and suburban areas throughout the country. 

There are two types of USDA rural development loans: Guaranteed and Direct. The Direct loans are for very low- and low-income borrowers, and you have to apply directly through the USDA. The USDA Single-Family Guaranteed loans are offered through USDA-approved lenders, and those are what we’ll be referring to in this article.

Here are just a few of the major perks these mortgages offer prospective homeowners:

0% down payment requirement

This is perhaps the biggest benefit of a USDA home loan. Unlike most other mortgage loans, USDA mortgages require zero down payment. This can amount to huge savings up front.

An FHA loan, for example, requires at least 3.5% down. On a $200,000 home purchase, that’d be $7,000. Conventional buyers pay slightly less at 3% (still $6,000!). USDA borrowers can get into a home with no money down, which can shorten their homebuying timeline by years.

Lower mortgage insurance premiums

Mortgage insurance is a fact of life on low down payment loans.

Most FHA borrowers owe an upfront and ongoing mortgage insurance premium (MIP) for the life of their loans, and conventional loans require private mortgage insurance (PMI) until you reach 20% home equity.

VA loans don’t have a mortgage insurance requirement, but borrowers do pay a funding fee on the loan, calculated as a percentage of the purchase price.

USDA loans are no different in that they include an upfront Guarantee Fee and an annual mortgage insurance premium. But USDA mortgage insurance rates are lower than FHA loans, so if you’re eligible for both of these government programs, going with USDA could mean substantial savings on mortgage insurance.

Competitive interest rates

Because the USDA mortgage program has the backing of the U.S. government, this reduces the risk for mortgage lenders, allowing them to offer low interest rates — even for borrowers with no down payment. A lower rate means a lower monthly payment and less paid in interest over the long run.

Gift funds and down payment assistance allowed

The USDA loan program allows you to use gift money or an assistance program to help cover your closing costs or down payment (if you wish to make one). A huge advantage to USDA over other programs is that you don’t have to take the extra step of finding, applying, and getting approved for down payment assistance unless you want to.

But many assistance programs are available, and come in the form of grants, which do not need to be repaid, or forgivable loans that you don’t need to repay if you stay in the home for a certain period of time.

Available for multiple property types

You can use a USDA loan to buy a number of different types of properties, including:

  • Single-family home
  • Condo
  • Land (if you’re building a new construction home)
  • Manufactured home
  • Fixer-upper

USDA loans cannot, however, be used on investment properties or vacation homes.

Multi-unit properties are not eligible for USDA, even if you plan to live in one unit. If you’re in the market for a 2-4 unit home, consider FHA over USDA.

OK, now it’s time for the cons

Despite all of these pros, a USDA loan has its cons, too. Two of the biggest? The income limits you have to meet and the geographic restrictions they set on properties.

Income limits

USDA loans are for low- and moderate-income borrowers only, so if you exceed the income limit for your area, you won’t be able to qualify.

The income used to qualify is Adjusted Household Income, which means income from all adult household members, including non-applicants, is considered.

If you were buying in Butler County, Alabama, for example, a four-person household would need to make $91,900 or less per year in order to qualify. In a costlier market like Los Angeles County, California, the limit is $138,000 annually.

You can use this list to determine the USDA income limits in your area. If you find that you’re above the limit by just a few thousand dollars, it’s still worth talking to a USDA lender about whether you meet the eligibility requirements.

USDA lenders calculate eligibility based on adjusted income, and you can use a number of deductions to try to stay within limits. For instance, you get a deduction for each child in your household, plus childcare expenses. So you may qualify even if your gross income appears to be somewhat out of range. 

Geographic location requirements

A USDA loan can only be used to buy a home located in an eligible area. Despite the name, these loans are not just for rural areas. Many suburban areas qualify as well.

While USDA places caps on eligible city populations, towns and cities can also be eligible if they are “rural in nature.” This leaves a lot for interpretation, so it’s worth checking your area on the eligibility map.

Even around San Francisco, one of the most densely populated areas in the country, there are still many USDA-eligible areas. Everything not shaded in yellow on the below map is eligible. Working remotely? Only going to the office once per week? It might be worth living further out to take advantage of this program.

Generally speaking, homes in urban and densely populated areas can’t be bought with USDA loans. Some exceptions apply, though, for places that have limited credit available for homebuyers, so it’s always worth checking before you buy.

You can use the USDA eligibility map search tool to see if a property you’re considering is in an eligible community.

Mortgage insurance for the life of the loan

USDA loans may have lower mortgage insurance premiums than other loan options, but you’ll also pay those premiums for life.

The only way to remove mortgage insurance is to refinance into a conventional mortgage, which requires at least 20% equity in your property.

Property restrictions

You can only use USDA loans to buy a primary residence. If you’re looking to buy an investment property, second home, or vacation house, you’ll have to look at a conventional loan.

Additionally, properties must meet HUD’s minimum safety standards.

Longer underwriting times

For loans like FHA and VA, lenders have the authority to review and approve loans entirely on their own. USDA does not grant that ability to lenders.

The USDA itself reviews each loan file after the lender approves it. This could mean an additional week or two to close the loan compared to other loan programs.

Conventional loan conflicts

In order to qualify for a USDA loan, a borrower cannot be eligible for a conventional loan. That means if you enough for a 20% down payment, you would not be able to qualify for a USDA loan.

So, should you get a USDA loan or not?

USDA loans have some major benefits — zero down payment being one of them — especially for first-time homebuyers.

Use this quick rule of thumb: If you’re buying in an eligible area and you’ve never served in the military, check out USDA first. Its zero-down-payment option and low mortgage insurance costs make it a clear winner over other programs.

But the best type of mortgage loan really depends on your unique circumstances, and some aspects of your file like income can make you ineligible anyway. 

If you’re not sure one is right for your purchase, a lender can give you personalized guidance on your mortgage options.

USDA loan pros and cons FAQs

What is the downside to a USDA loan? Not everyone — or every property — is eligible for a USDA loan, as there are strict income and location requirements. Additionally, USDA loans come with lifetime mortgage insurance premiums (MIP), although USDA’s MIP rates are lower than those for FHA loans.

Is a USDA loan worth it? A USDA loan can be a great choice for those who qualify. With no down payment requirement, these loans can free up funds you need for closing costs, moving expenses, and more. They can also allow you to buy a home sooner and with less in savings.

Does the USDA annual fee ever go away? With a USDA loan, you’ll pay your annual mortgage insurance premium for the entire time you have the loan. The only way to remove the mortgage insurance requirement is to refinance into a conventional loan once you have enough home equity (20%).

USDA loans sound great. Where do I apply?

If a USDA loan sounds like a good fit after reviewing the pros and cons, you’ll want to get preapproved through a USDA lender.

*Pre-approval is based on a preliminary review of credit information provided to Fairway Independent Mortgage Corporation, which has not been reviewed by underwriting. If you have submitted verifying documentation, you have done so voluntarily. Final loan approval is subject to a full underwriting review of support documentation including, but not limited to, applicants’ creditworthiness, assets, income information, and a satisfactory appraisal.

**Eligibility subject to program stipulations, qualifying factors, applicable income and debt-to-income (DTI) restrictions, and property limits. Fairway is not affiliated with any government agencies. These materials are not from HUD, USDA or FHA and were not approved by HUD or a government agency.

USDA Guaranteed Rural Housing loans subject to USDA-specific requirements and applicable state income and property limits. Fairway is not affiliated with any government agencies. These materials are not from USDA or RD and were not approved by USDA or RD or any other government agency.

Some references sourced within this article have not been prepared by Fairway and are distributed for educational purposes only. The information is not guaranteed to be accurate and may not entirely represent the opinions of Fairway.

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