2021 USDA Loan Requirements For 0% Down!

Certified Mortgage Advisor
NMLS 1701021
December 23, 2020

Struggling for down payment?

So you most likely are feeling the pressure of trying to save for a down payment as homes continue to increase in price. It can be difficult to save money for a down payment because the higher the homes rise in costs, the more down payment. So, we're going to talk about a 0% down payment program called USDA.

What is USDA?

It's actually one of the four main types of loans and this is a really great program. It's actually backed by the government and insured by the government. This means the lenders can offer you really great interest rates, a really great program, and 0% down without all the strings attached that traditional down payment assistance programs have.

Two main types of USDA loans

So there are two main types of USDA loans there's direct and guaranteed. Direct is primarily for lower-income, and guaranteed is one that's going to be offered by most banks, credit unions, and brokers. So, specifically, we are going to talk about the guaranteed program.

Insured by USDA

All right, now these loans are insured by USDA and they're primarily for what they call rural areas. However, this isn't as strict as you might think it is.

It's not just for farmland

Don't just think of farmland because USDA is all based on the population size of a specific city.

First time home buyer or a new build

You don't have to be a first-time buyer with the USDA, which is really fantastic. You don't have to be a first-time buyer to take advantage of this fantastic 0% down program. There is also a one-time closed loan for construction so you could actually do a new build with the USDA.

And then also there's an applicant orientation guide from USDA which is in both English and Spanish. It's given why USDA might be a helpful guide to see a little bit more about the program there.

A short shortage of USDA

Now, before we dive into all of the good details of USDA, I want to quickly talk about the funding shortage problem that USDA is having. Because they even say here at the beginning of each fiscal year, funding for the guaranteed loan program is not available for a short period of time. Approximately two weeks and most lenders probably won't lend with the USDA until those funds are available.

What people say about this program

Here are just some things that some of you have said about USDA alone, so Joel said, "We have a USDA loan and love it! We found a house on 3.3 acres, ran outside the city where we work. It's a great option if you're eligible and finds the right zip code."

Janice said, "I just used the USDA loan. It went pretty fast and they required a lot out of me. It only costs me around $800 after closing costs."

Skywalker said, "I went with USDA on a new house, build 2.7% interest, no down payment. My builder paid the closing cost and they cut me a check at closing. The only thing that got put into the loan was the USDA program, which was $1,000."

B.I.T.W. also said, "I have a USDA loan and I bought my first house. It was stressful due to the waiting period, but it was so worth it, my property appraised for higher than the loan, I literally walked in signed papers and then moved into the house with no money exchanged outside of my insurance."

Why I talk about USDA

So you can see USDA is a really popular program. It's a fantastic option and frankly, just, most people don't know about it. And a lot of lenders and loan officers are not familiar with this program and how beneficial it can be. So I've done a ton of research on USDA. I've closed several USDA loans as a broker and I honestly think this is going to be the most in-depth tutorial or walk-through overview of USDA.

Credit requirement, is it way too high?

So first let's talk about the credit requirements. There is a minimum of 500 as a median credit score.

Now, if you do have a credit score that has 500 on the lower side, this is going to limit your debt-to-income ratio, which means it's going to limit how much you can afford. The maximum purchase price you can get, so the lower the credit score, the lower you can get approved for as a purchase price. Then, also a lower credit score is most likely going to require reserves. This is extra money left over in your bank account after you close. Normally one to two months' worth of housing payment is leftover in your bank account after you close and, and pay your closing costs. Now, ideally, you want to have a 640 credit score.

How to tap into higher DTI

What this allows you to do is take advantage of GUS. GUS (Guaranteed Underwriting System), is the USDA automated underwriting system. This is what allows you to tap into a higher debt-to-income ratio. Which means you can afford more house, you can get approved for a higher purchase price and you're going to get lower rates. If you have a 640 or higher.

Probe, don't just settle on what they offer

Now, be very careful of lenders who don't know the true guidelines. Not a ton of people are familiar with USDA. And so you'll probably run into loan officers who will say that the minimum for USD is 640 or the minimum for USDA at 620. That's just not completely true. 640 is the minimum for automated underwriting, but you can always do a manual underwriting below a 640. It will just require a little bit more in-depth process. If you're there search around and find a loan officer, who's going to help you with that instead of just cutting you off at their company guidelines.

Turnaround time for filings

So credit events, if you had some credit history in the past that wasn't so great, here are the waiting times for USDA. For Chapter Seven, bankruptcy, two years from discharge, Chapter 13 is 12 months on-time payments, and you also need permission from the court. Foreclosure, short sale deal in lieu is three years of the waiting period and not more than 12 months with not more than one 30-day late for mortgage late. So if you have a mortgage right now, you can have a one 30-day late and still get approved for a USDA loan. If you have more, you won't be able to get approved with a USDA loan.

Can you use USDA if you have an existing mortgage?

Now, most people going into the USDA program tend to be renters. So that's not going to be an issue for you, but if you have a home currently with a mortgage, you want to make sure that you have been paying that on time if you're looking to qualify for USDA.

USDA can compete with FHA and VA

Rates on USDA are fantastic! They're comparable to FHA and VA. These are both again, backed by the government. That allows lenders to push out lower interest rates. Brokers tend to have better rates on USDA programs compared to banks. And the reason why there's a lot of regulations around brokers is they can take any cost savings because the risk is lower. And because it's government-backed it has to be given and passed on to you as a buyer. Banks actually can collect that difference and so sometimes they tend to have comparable rates to conventional were FHA, VA, and USDA loans tend to have lower rates than conventional loans.

An example computation

So for instance, let's take a look at an example for a $300,000 property. Conventional would be 2.75% interest, USDA would be 2.375% interest. Now there is mortgage insurance, so that's worth talking about because it's not always just about the rate.

USDA has monthly mortgage insurance and upfront mortgage insurance. Meaning, there are two types here, monthly it's 0.3, 5% of the loan amount. On a $300,000. That's 87.50 per month. That's on top of what you're already paying in principal interest taxes and homeowners insurance. Okay. There's also a 1% funding fee, and they're going to take 1% of your loan amount and add it into the total.

If you're doing an initial, let's say a $300,000 purchase, 0% down. Your funding fee is an additional $3000. Your total loan amount is $303,000 and mortgage insurance is going to stay on for the entire life of the loan or until you refinance into another type of loan.

So you could refinance it into conventional to take that mortgage insurance off, but you'll never be able to remove USDA mortgage insurance and that is something to keep in mind. But this is a lot lower than most other loan programs with their mortgage insurance.

USDA's location and property requirements

For property requirements, this is where USDA starts to get a little tricky. For rural, what does rural mean? It's not all, tractors and farmland. USDA actually has a map and what you can do is go look through that and find areas around you that are eligible for USDA. It's probably a lot more than you think. Most people, can actually extend their commute by maybe 15 minutes and be within a USDA eligible area. Because often you can get pretty close to the city that you might be wanting to look. If it's not eligible, extend your commute just a bit, to be able to qualify for that 0% down program.

Yes, you have to live in your USDA home

Now, this does have to be a primary residence for at least one year. So it means you have to live in that home, this cannot be an investment property. You have to live there by yourself or with your family.

Renting it out or selling it?

But living there for at least a year before you decide if you're going to rent it out. Also, you can sell it, within the period of a year, if you want to. But if you choose to rent that out in the future, you will need to be in there for at least one year. Now what's kind of confusing about USDA is you would assume is it's rural. So, maybe I could buy a home with some farmland on it or maybe has some equipment with it. There's zero income-producing land or buildings allowed with USDA. That means that if there's a working farm, you can't get a traditional USDA guaranteed loan with it. You're going to need an actual, specific farm loan for them because now you start getting into, you know, the property is commercial to use, not just residential use. So watch out for that.

Let's check some home

Now let's talk through some example homes on Zillow, because anytime I talk about USDA loans, people always say like, "Yeah, the only thing can get approved for is a dump." And that's just simply not true. If you're in high-cost areas, you can go move. You're allowed to do that.

So here's an example in Florida, there's this home at $287,000, it is a nice home. This is not a dump and this is USDA eligible 0% down. Now there's another one in Florida, $290,000 again, great home, beautiful home, and 0% down. Finally, this 300,000 is in Tip City, Ohio and this is USDA eligible area. The nearest city to Dayton to Tip City. It's like a 20-minute drive. So if you work downtown, you can do a 20-minute drive. Pretty sure that won't kill you. That is if you need to do 0% down with your loan.

Loan limit? None for USDA!

Now, USDA is a little strange in that there is no loan limit to how much you can get approved for. There's no ceiling on it. Actually, most loan programs tend to have a limit, USDA doesn't.

Income limit

Instead, what they have is an income limit for your household. So this is an indirect way of setting a loan limit because this income limit tends to be around the 80 to $90,000 per year mark for a household.

Be careful with USDA

USDA is kind of strange because even if somebody is not on a loan if they're 18 years of age or older and they work, their income is included in household income. So it's a little strange that you have to watch out for. With USDA, even if you're on the loan by yourself and you make less than the income limit, if you have somebody else in the home that you're living with and they work too, they can push you over the income limit for your household and you can't qualify. And the way that USDA actually checks this is they'll ask for things like W2's and pay stubs for people who aren't even on the loan to check for this income limit. So just be very careful about that.

Two things you need to check for eligibility

The two main things that you need to check for eligibility wise for USDA are whether the property is in a USDA eligible area and whether we meet the income limit or are we within the income limit. If so, the rest of USDA is easy to qualify relative to other types of loans.

Appraisal Requirements

Now let's talk about the appraisal requirements. We talked about the property and where the property needs to look like, the bank or the lender is going to do an appraisal to make sure it's up to USDA standards.

USDA is a really cool option

What's really cool about USDA is that they have a feature that no other loan has, and this is a closing cost wrap inside the appraisal. So here's how this works. If the home appraises for more than the purchase price, you can wrap your closing costs into the loan.

So for example, let's say, you were looking to purchase a $250,000 house. Then an appraiser goes out and they appraise the property and they say, this is actually worth $255,000. So, what you can do is you can take $5,000 and include your, and your closing costs up to $5,000 into the loan. So any closing costs you have, you can take care of that, put it back into the loan amount. No other loan can do this. This is a really cool feature.

That again, a lot of people just don't know these things about USDA loans. So it's helpful for you to know this in case you run into these scenarios and the people you're working with, maybe aren't as familiar with the program.

USDA is concerned with your health and safety

So USDA is going to be focused on what they call health and safety. All government loan programs tend to use that language, health, and safety, for their appraisals. So they're looking at things like structural soundness, and they want to make sure the property value is protected. So, you know, this home is not in disrepair that's going to prevent it from being sold in the future. So it's helpful to think that it's move-in ready.

It may be stricter but homes home nicer and livable

As, you know, when you're looking at these homes for USDA and it is stricter than conventional because it's government-insured, it's government-backed. So, the government tends to want these homes to be a little bit better condition than just conventional loans.

Things that appraisers don't want to see

So some common things that might trip you up in this appraisal broken glass, chipping paint, plumbing issues, exposed wiring, broken HVAC, running wood, wet basement, or crawl space. These are all things that need to be addressed. If an appraiser calls these out, they're going to require them to be fixed before you close on that loan.

Work history and employment

Employment can be a tricky thing and this sometimes can be confusing for people, but, you're going to need stable income and employment. This is all subjective. There are no solid guidelines around, but ideally, you want to have a two-year minimum employment history.

Now, this doesn't mean it has to be at one job for two years. But ideally, you want to be in the same line of work for the past two years. So over the past two years, you could have had four different jobs all within the same line of work. So maybe you worked at four different hospitals, or you worked for four different plumbing companies. That's perfectly fine. You don't need two years at one job.

In fact, USDA says there's no minimum for any particular position. All the lenders trying to do is see, do you have stable income and employment? So they need to see your employment over the past two years. So gaps greater than 30 days need a letter of explanation. This isn't going to stop your loan from going through. But if you do have that gap, they just need to see why was there that gap in employment in place.

Self-employed or college is counted

If you're self-employed, you need a minimum of two years in that company, and college does count towards your employment history. So if you just got to college, let's say you got a nursing degree and you're going into nursing, you can absolutely use your college as that two-year employment history.

What lenders can lend you, not what you should loan

Now, debt-to-income. DTI income is a boring number, but it helps us understand what's the maximum we could be approved for. Now, keep in mind, just because a bank would lend you money doesn't mean you have to take it, or you should take it. Often a bank will lend you more money than it's probably comfortable in your budget. So keep that in mind. We're only talking about what a lender would lend to you, not what you should take.

Front-end and back-end ratio

Here's GUS again, we talked about that just a bit ago. This is if you have a 640 and higher, this is the automated underwriting system. This is how you're going to be able to get approved for more is if you get your loan underwritten through the software. So we have front-end and back-end ratios. The front-end is our gross monthly income times the front-end ratio is how much our maximum monthly housing payment can be. The back-end ratio is the same thing, but it also includes our monthly debt, the payments we make, for instance, on your minimum credit card payment, your student loans, your car payment.

So if we took a $70,000 per year income, if we were getting underwritten through GUS, we could afford $2,332 per month as a housing payment. That's how the maximum we could go. This would actually include with a backend ratio, an additional $700 a month's worth of debt. So if you had $700 a month's worth of debt payments, you could still qualify up to a housing payment that's $2,300.

It's only what the lender would give you, not what you should take. Ultimately you are in charge of your budget, not the lender. They're not a financial advisor for you. Now manual, so if you have a less than 640 score, we can see how much this drops. We went from being approved for 2300 a month to just under $1,700. We can still include the $700 a month in debt, but we greatly reduced how much we could purchase all because our credit score was lower. So this is why it's important to keep your credit score up. That's going to help you qualify for more and do that a lot easier.

How much money you should spend on a down payment

For down payment and closing costs, 0% down is the main thing about USDA. This is what attracts most people to USDA, and this is at all credit score levels. So all the way down to a 500, all the way up to an eight, you can do 0% down.

How about closing costs?

However, closing costs are normal, just like every other loan. You're still going to have your appraisal, your title fees, your taxes, your homeowner's insurance. Those are still going to exist on every single loan program. So just because you hear 0% down, doesn't mean you're not bringing anything to the closing table. You still might have to do some negotiation to figure out how you're getting those closing costs paid for. Some people pay for the amount of closing, some people negotiate with the seller to give them money, some people receive a gift, or some people wrap the closing costs into the appraised value. There are several ways you can do this if you don't want to pay closing costs.

Now there's that 1% funding fee, and it's added to the total loan amount. So this is going to be listed on your loan estimate, but it's not an upfront fee it's included in your loan amount and that's going to be financed over the life of your loan.

My word of caution here with 0% down loans is they're great. It's nice to not have to put up a down payment because you can put that money towards savings or paying off debt or, repairs for the home. And the issue with 0% down is it can get you stuck in the home, for a little bit longer than you might anticipate.

Be careful with 0% down

So let's say right now home values are right here. We purchased sent maybe $300,000.  We did 0% down, so we have a $300,000 loan. Well, what happens if property values drop? Not even if they think what if they just drop? So now our home is maybe worth 290. We'll still have close to a $300,000 loan, so we're almost immediately underwater in our mortgage. It's not a huge issue if you're going to be in the property for, let's say for 5 to 10 years, you'll be okay. You'll regain the equity back to whether any losses. But if you're looking on being in the home for just a couple of days, you could run into issues where if you need to get out of the home, let's say you need a job relocation or some financial emergency comes up and you need to sell it, then you could be stuck in a position where you have to pay to sell the property. So just be very careful if you're doing 0% down. You want your body timeline to be a little bit longer.

Seller credits

Seller credits. So you can negotiate the salary to pay a portion of your closing costs. Now, keep in mind, I didn't say all closing costs because you can't really negotiate in there to say all closing costs. Loans have a limit of how much you can ask for.

So in USDA, this is 6% of the purchase price. So a hundred thousand dollars purchase price you can ask for up to $6,000 in closing costs credit. $200,000 purchase price you can ask for up to $12,000 in closing costs credit. Now your closing costs ever gonna be that high? Most of the time, no. Unless you have crazy high taxes or transfer taxes or something like that. Most of the time, your closing costs are not going to be that high, but you can't ask for up to that amount if you need to.

Commitment review

Now here are some special requirements and features. USDA is a little bit strange and unlike other loans in the sense that it has, what's called a commitment review. So basically your loan is going to be fully approved twice. So it's going to get approved once with your lender. Everything's packaged, it's done. You have all your documents in, and the lender says you're good to go. Then what they're going to do is they're going to take your loan documents and send them off to USDA. USDA then has to review it and issue their own approval for it.

Now I've never seen it come back where USDA says this loan isn't approved. Most of the time, lenders do a good job, getting everything they need in that way USDA approves it pretty quickly. But USDA is basically doing an audit to see, does this meets our standards of loan? If so, great. We'll go ahead and approve it.

Turnaround time for USDA to review a loan

So the bummer about this is it can just take time. So in a normal market, USDA tends to take about two to three days to reveal your loan and give you a final approval, then you can close. However, in a heavy seller's market like we're in right now, sometimes this is even taking up to two weeks, so you can be fully done with the loan, and then it has to be reviewed by USDA and it's taking two weeks or maybe more.

So what you can do is you can actually Google turn times for your state. So how long will it take USDA to review? So for instance, in Ohio, I can Google USDA, Ohio turn times, and that will show me how many days it takes for USDA to review a loan once it's fully approved by your lender.

Moratorium is just awesome

And there's also a pretty cool moratorium built into USDA when you get this loan. Borrowers who continually or continue to personally occupy the property may apply for a postponement payment for up to two years if due to a loss of income beyond their control, they're temporarily unable to continue making scheduled payments.

So there's a really great provision in there in the event that something bad happens, there's a job loss or a medical issue that comes up where it's going to buy you some time where you're not going to be immediately kicked out of a home or run into all of the other issues that can come along with not being able to make that mortgage payment.

Cons of USDA

Let's talk about seller perception because when we're using loans, we're writing offers on homes. And we have to keep in mind how the seller is perceiving our offers so that we do our best to win out against other people who are bidding for the same home. For lenders and other people, USDA is just uncommon. A lot of people just aren't familiar with the program. So it might take some extra assurance to the seller to educate them about this program here. It's also viewed as slow because of this commitment review.  Right in a seller's market, like we're in right now, if a commitment review's going to take two weeks, a seller probably is not going to like that. Compared to a conventional offer or an FHA offer something where there isn't this extra set of reviews that needs to be done.

Also, appraisals can be a bit of a pain because of the requirements we talked about earlier. It's more strict than a conventional loan and the value sticks with the home for four months.

So if you get an appraisal today with a USDA loan, and let's say approve appraises for $250,000, and let's say it's short, let's say the home was a 275,000. Let's say you back away from the property. No one else can purchase that USDA home, or that home with USDA and get a new appraisal for another four months. It's going to stick, that value is going to stick for four months. So that can be a bit of an issue for sellers there.

Applying for USDA, is it easy?

Now, how do we actually apply it? How do we use this program? So you're not going to go directly through USDA. There is a USDA direct program like we talked about at the beginning, which is for low-income families.

But with USDA, most banks, brokers, credit unions are going to have USDA programs. So they are going to be your best bet to find a USDA-guaranteed program. So most lenders offer these programs. So ideally you want to get approved first and then look for properties in a USDA area using that map that we talked about.

Check out your options to apply

So if you want to work with a broker, there are two options that you have, you can go to search in mortgagebroker.com or certified mortgageadvisor.com. Those are both good options for you. You can also shop with a credit union, a direct lender, a bank, any one of your choices that you want for a USDA loan.

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