The United States Department of Agriculture, or USDA, has a special program that allows mortgage lenders to approve homebuyers using a zero down payment loan. There are several requirements for the USDA product and not all mortgage companies are very familiar with this special program. What sort of requirements? Perhaps the biggest single distinguishing feature, especially when compared to VA and FHA loans, relegates the property to be located in a specific area.
USDA has established a website where buyers can go visit, type in the property’s location. The website will then tell you if the property is in fact located in an eligible area. Primarily, the property must be located in what is determined to be a “rural” area as that is the focus of the program. However, due to population shift, some areas that were originally declared rural are more suburban in nature.
There are also income requirements that limit the income from all of those living in the subject property to be no more than 115% of the median income for the area. Yet this 115% figure is general in nature and unlike other loan programs, takes into consideration several other factors. Once your USDA lender calculates your qualifying income for you, a prequalification amount is given based upon current market rates, qualifying income and current debt load. This calculation results in your debt-to-income ratios, or simply, “debt ratios” or “ratios.”
» More: Check your USDA Loan eligibility
The Debt Ratio Guideline
The USDA recommends two debt ratios, one for the housing payment and a separate one that includes all payments. This ratio is determined by dividing those payments by qualifying income. There are no hard and fast rules as it relates to a proper ratio but the USDA has issued a guideline recommending the housing ratio be no greater than 29% of qualifying income and 41% of all monthly debt. Let’s first explain qualifying income.
It’s more than just taking your income and making sure it’s no greater than 115% of the median income for the area where you intend to buy. This income takes into account the number of all those 18 or over that will occupy the property. Anyone living there that is a student or is disabled, the total income is reduced. Anyone over 62 also affects the amount. Let’s say that after you’ve completed all the parameters, your qualifying income is $70,000 and there are five qualified members to live in the home. Now let’s look at your ratios.
29% of $8,000 is $2,320. This is an approximate amount allotted to your total monthly house payment. This amount will include the principal and interest payment to the lender, a monthly allotment for annual property taxes and homeowner’s insurance as well as a monthly mortgage insurance premium payment. Now let’s say a rate for a 30 year fixed USDA loan is 4.25% and you want to buy a home that is listed at $300,000.
The principal and interest payment is $1,475. Payments for property taxes and insurance is around $375 and the monthly mortgage insurance payment is $100 for a total monthly housing payment of $1,950. Now divide $1,950 by qualifying income of $8,000 is $1,950 divided by $8,000 = .243, or 24.3. In this example, your debt ratios are acceptable. Remember, this is a guideline and can be higher or lower. All you need is the loan approval. Now add other credit obligations, child day care or any child support or alimony payments if those payments last beyond three years. Let’s say there are two car payments, one at $350 and another at $450. One of the borrowers also has a $100 student loan payment. Don’t count payments for things such as utilities or cell phone bills. Now we have total credit payments of $1,950 + $350 + $425 + $100 = $2,825. $2,825 divided by $8,000 = .353, or 35.3. The total ratio guideline for USDA loans is 41 so this example also qualifies.
Getting Ratios Lower
Are the ratios too high? There are ways to lower them. The obvious is to borrow less. Your loan officer can tell you an amount. The other way is to get a lower rate which will reduce the principal and interest payment. If you’re looking at a 15 year loan and your ratios are too high, select a 30 year loan instead. The payments will be lower and since there is no prepayment penalty on a USDA loan, you can pay the loan as if it were in fact a 15 year term.
Look at your insurance quote from your real estate agent. Can you safely increase the deductible? Doing so will lower your total monthly payment but only if you’re properly covered and you can handle the higher deductible should you ever need to file a claim.
Qualifying debt ratios for USDA are in fact guidelines and as long as you can comfortable handle the monthly payments, as long as you receive your approval with your own ratios, it doesn’t really matter. Remember, it’s just a guideline.