FHA vs. USDA Loans
June 1, 2022
Our last blog post explored U.S. Department of Agriculture (USDA) Loans, including loan requirements, defining characteristics of an eligible rural area, benefits, the loan process, and Guaranteed versus Direct USDA Loans. This month we are comparing Federal Housing Administration (FHA) Loans and USDA Loans to help potential buyers determine if one or both options fit their needs.
FHA Loans and USDA Loans have different guidelines. Below is a comparison of some of the basic requirements.
FHA Loan Requirements
- Income requirement – none
- Credit score and history – this depends on the lender, but some accept as low as 580; FHA guidelines state that a lack of credit history is not a valid reason to deny a loan
- Geographic & property requirements – there are no geographic requirements, but properties are limited to owner-occupied homes
- Employment – must have steady income and employment history of two consecutive years in most cases, but it can be waived in certain situations; a letter of explanation is needed if there are gaps in employment one month or longer
- Loan type – 30-year fixed mortgage, 15-year fixed mortgage, or adjustable-rate mortgage
USDA Loan Requirements
- Income requirement – income limits vary depending on the area, but the household income limit is typically $91,900 for a household of up to 4 individuals and $121,300 for 5-8 individuals. The general rule is that your household income cannot be 15% above the median income where you live. The borrower must also have an acceptable debt-to-income ratio
- Credit score and history – most lenders require a credit score of at least 640 and a clean credit history
- Geographic & property requirements – it must be a single-family home in an eligible area and must be used as your primary residence
- Employment – must have steady income and employment history of two consecutive years in most cases; self-employment is eligible
- Loan type – 30-year fixed mortgage
FHA Loan Pros and Cons
One of the biggest draws of an FHA Loan is its credit requirements. Many lenders will accept a credit score as low as 580, and they are prohibited from denying a loan due to a lack of credit history. Additionally, FHA Loans typically offer better rates than conventional loans for borrowers with low credit scores. Another advantage is the low down payment threshold, as many lenders only require a down payment of 3.5 percent.
There are a few drawbacks to FHA Loans. Depending on the region you live in, there are certain loan limits in place, with $420,680 being the maximum loan amount in most areas. Another downside is that many condos are not approved, especially new communities that lack financial details or operate on a minimal or stressed budget. Additionally, private mortgage insurance (PMI) cannot be cancelled unless you put at least 10 percent down. In that case, it can be cancelled after 11 years.
USDA Loan Pros and Cons
There are a few key benefits of a USDA Loan. The biggest factor for many is that no down payment is required for those who qualify. This opens the door to homeownership for many who may have been blocked by a 5 percent to 20 percent down payment. Other benefits include competitive interest rates, low monthly mortgage insurance, and flexible credit requirements.
Geographical restrictions are a key downside to USDA Loans. Eligible areas must be rural in character, have a population below 35,000, and lack sufficient mortgage credit for low- and moderate-income families. There are also income limits, which are typically $91,900 for a household of up to 4 individuals and $121,300 for 5-8 individuals. The general rule is that your household income cannot be 15% above the median income where you live. Additionally, borrowers are limited to single-family homes.
Which loan best suits your individual circumstance? If you still have questions after reviewing the requirements and the pros and cons of each type of loan, Mlend is here to help you better understand your options.