Do you want to buy a home but worry about coming up with a down payment? A USDA loan can ride to the rescue, thanks to its 0% down payment option.
There are a lot of reasons to love USDA loans: 100% financing, competitive interest rates, flexible credit score requirements.
But a lesser-known reason to appreciate these government-backed mortgages is that mortgage insurance for a USDA loan is typically lower than FHA loans or the private mortgage insurance (PMI) you’d pay on a conventional loan.
Lower mortgage insurance isn’t as sexy as no down payment or competitive interest rates, but it does affect how much your home will ultimately cost you.
And when comparing loan options, all of your cost factors count.
What's in this Article?
What is USDA mortgage insurance?
Borrowers who take out 0% down USDA loans to buy a home pay mortgage insurance (also known as an “annual fee”) of 0.35% of the existing loan amount. Each year that the loan is paid down, the mortgage insurance drops, too.
This mortgage insurance is equivalent to conventional mortgage PMI, as it serves the same purpose.
The USDA annual fee acts as a protection against potential losses for mortgage lenders and the U.S. Department of Agriculture (USDA), the federal agency that insures these loans. It’s a little like a car insurance policy. It’s there just in case of a collision, or in this case, if the borrower defaults on the loan.
Lenders who approve mortgages with less than 20% down typically charge mortgage insurance to cover themselves in case of default – and those working with the USDA are no exception.
How it works
USDA MIP comes in two forms: a one-time upfront guarantee fee of 1% of the loan and the annual 0.35% fee, paid in 1/12 installments each month along with the payment. You don’t have to make a separate payment toward mortgage insurance; it’s included in the one payment to your lender each month.
As far as the 1% upfront amount, most buyers include that in the loan amount. You can do that even if the final loan amount is above the appraised value.
For instance, buying a $200,000 home would net a final loan amount of around $202,000 because the 1% fee is usually wrapped into the loan. Of course, you might be able to pay the upfront fee in cash, with gift funds, or by using seller contributions. But that depends on whether you have those funds available.
The USDA MIP rate is lower than conventional loan PMI rates and the MIP you’d pay on an FHA loan, which is also government-backed. However, you’ll pay MIP for the duration of the loan, unless you refinance to a conventional loan once you reach 20% equity in the home.
USDA mortgage insurance vs private mortgage insurance (PMI)
Conventional loan lenders require monthly private mortgage insurance (PMI) for folks who make less than a 20% down payment. They charge PMI for the same reason that the USDA charges MI: to protect themselves against potential loan default.
Borrowers can request that PMI be canceled once they’ve made enough mortgage payments to reach 20% equity in their home. When the borrower reaches 22%, the PMI requirement is automatically removed.
USDA MIP is different from PMI in two crucial ways. First, the interest rate on USDA mortgage insurance is typically much lower than what you would pay in PMI. Second, USDA mortgage insurance lasts for the life of the loan, regardless of your down payment amount or how much equity you have.
Because of the lower mortgage insurance rate, USDA monthly payments may be lower than those on other types of mortgages, though your mortgage payment will depend on the purchase price of your home, how much you’ve borrowed, and your interest rate.
Mortgage insurance: USDA vs. other government loans
USDA MI is not only lower than the PMI required on conventional loans, it’s lower than the mortgage insurance premiums (MIP) required by one of the most popular government-backed programs, FHA home loans.
The FHA requires both an upfront fee and an annual fee that usually lasts the life of the loan. You can roll both into the monthly mortgage payment, just as you can with USDA loans.
The current FHA upfront fee is 1.75% of the loan amount, substantially higher than the USDA’s 1.00% upfront fee. That’s $1,750 upfront for every $100,000 borrowed for FHA and $1,000 for every $100,000 in USDA financing.
The FHA annual MIP fee ranges between 0.45% and 1.05% of the loan amount per year, depending on your down payment, credit score, and the loan repayment term. The most common rate is 0.85% versus USDA’s 0.35% annual premium.
On a $250,000 loan, FHA mortgage insurance would cost around $178 per month compared to USDA’s $73.
At first glance, USDA seems like the clear winner over FHA because of the lower MIP rate and the more favorable down payment options — FHA loans require a 3.5% down payment, whereas USDA loans offer 100% financing.
However, USDA borrowers must purchase homes in qualifying locations and meet strict income limits. FHA loans may be used anywhere in the country and there are no income limits, making them accessible to a wider range of borrowers.
USDA MIP vs the VA funding fee
VA home loans, which are available to qualified veterans, active military service-members, and eligible surviving spouses, is another popular government-backed program. Unlike USDA and FHA loans, 0% down VA loans do not have a mortgage insurance requirement.
The U.S. Department of Veterans Affairs (VA), which insures VA loans, does require a one-time funding fee due at closing. In 2021, the funding fee ranges between 1.4% and 3.6% of the home’s price, depending on the down payment amount.
USDA vs conventional vs FHA vs VA mortgage insurance
Here’s the bottom line: if you qualify for a USDA loan, you may save considerably on overall mortgage insurance costs, including upfront and ongoing fees. Ultimately, you may be able to buy a home with no down payment and lower monthly costs.
Here’s a breakdown of the comparative insurance costs for USDA loans versus FHA, VA, and conventional loans for a $200,000 mortgage.
|Loan Type||Upfront Fees||Dollar Amount|
|USDA||1% of loan amount||$2,000|
|FHA||1.75% of loan amount||$3,500|
|VA||1.4%-3.6% of loan amount as funding fee||$2,800-$7,200|
|Loan Type||Annual Fees||Monthly Amount|
USDA mortgage PMI FAQs
USDA loans include a mortgage insurance requirement, also called the USDA annual fee. This is different from private mortgage insurance (PMI), which applies to conventional loans with less than 20% down. USDA mortgage insurance rates tend to be lower than those for PMI, which can make your monthly payments more affordable.
The USDA mortgage insurance premium requirement lasts for the life of your loan.
USDA loans have a mortgage insurance premium requirement as long as you have the loan. However, once you have 20% equity in your home, you may be able to refinance to a conventional loan without private mortgage insurance.
USDA loans offer many advantages to folks who meet the income requirements in eligible areas – including low MIP rates. Combined with the 0% down payment option, USDA mortgages can make homeownership affordable for more people in rural and suburban areas.
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, RD, FHA, HUD, or the VA, and were not approved by any government agency.
*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.
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.