Motivated to purchase a home but worried that your tight budget may limit your options? You may be a candidate for an FHA home loan or USDA loan, both of which can put you on the fast track to homeownership, thanks to their low down payment requirements.
But there’s a lot to consider when deciding whether one of these government-backed mortgages is right for you.
That’s why we’ve done an apples-to-apples comparison of a USDA loan vs. FHA loan.
Read on for everything you need to know to make a more well-informed decision about whether these loans are right for you.
FHA vs USDA home loan eligibility
First, it’s important to get a basic understanding of each of these mortgage loans and how they work.
USDA loans — which originated in 1994 — are 0% down payment mortgages backed by the U.S. Department of Agriculture (USDA) that enable low- and moderate-income borrowers in rural and suburban areas to become homeowners.
“Advantages of the [USDA] program include no set maximum purchase price, low interest rates with fixed-rate terms, and no down payment required. You also don’t need to be a first-time homebuyer to be eligible for a USDA loan,” explains Scott Fletcher, president of Risk and Compliance at Fairway Independent Mortgage Corporation (Fairway owns Home.com).
What are the downsides? Only properties in certain rural and suburban locations qualify, there are income limits, and you’ll be required to pay mortgage insurance. Fortunately, USDA mortgage insurance rates tend to be lower than those for both FHA loans and conventional loans.
FHA loans, on the other hand, are under the Federal Housing Administration, run by the U.S. Department of Housing and Urban Development (HUD).
The government created these loans to make homeownership accessible to those with low-to-average credit and who struggle to save up large down payments. FHA loans require as little as 3.5% down. But as with USDA loans, you will owe mortgage insurance.
Understanding the qualification criteria for each loan program will help you narrow down which one may work for you.
USDA home loan guidelines
- Minimum credit score of 640
- A debt-to-income ratio (DTI) of 41% or less
- Adjusted household income equal or less than 115% of the area median income
- No late payments on a mortgage within the past 12 months
- Property must be a single-family home that will be your primary residence
- You must be a U.S. citizen, permanent resident, or a foreign national
- The home must be modest and residential in character
- Home should be between 400 and 2,000 square feet
- Home must pass an appraisal inspection for safety and livability
- No acreage limit, but property cannot be large enough to be subdivided or for commercial use
FHA home loan guidelines
- 3.5% down payment with a credit score of 580 or higher; 10% down with a credit score between 500 and 579
- Home must be your primary residence
- No investment properties or second homes
- Multifamily property is OK; you can live in one unit and rent out the others
- DTI of 50% or less, though you may be able to get approved with a higher ratio
- Pass an appraisal with an FHA-approved appraiser for safety and livability
- Buy within your area’s FHA loan limits
- Cover the closing costs involved, which can equate to around 2 to 5% of your borrowed amount.
Head to head
Now let’s see a side-by-side comparison of a USDA loan vs FHA.
|Income limit||≤115% of the median income in the area||None|
|Min. Credit score||640||500 (for 10% down); 580 (for 3.5% down)|
|Debt-to-income ratio||≤41%||≤50% (some lenders may allow a higher DTI)|
|Cost||Generally lower due to less expensive mortgage insurance fees||Comes with higher mortgage insurance compared to USDA|
|Property eligibility requirements||– Property must be used as a primary residence, not an investment or second home. |
– Modest and residential in character.
– Single-family residences only
– 400-2,000 square feet.
– Property cannot be large enough to be subdivided or used for commercial purposes.
– Home must pass appraisal that meets USDA property guidelines
|– Property must be used as a primary residence, not an investment or second home|
– Multifamily properties OK
– Must pass FHA appraisal
|Location requirements||Property must be in a qualifying geographic area||No restrictions|
|Loan limits||None for USDA Guaranteed Loans, but income limits indirectly cap loan size||$356,362- $822,375 for a single-family home in 2021|
What does each loan type cost?
When comparing a USDA loan vs. FHA loan, you’ll want to compare the total loan costs for each.
“USDA and FHA loans are somewhat similar in terms of the interest rate you’ll pay, the amount of mortgage insurance required, and closing costs applied to your loan. In some cases, I’ve seen lower interest rates being offered on USDA loans versus FHA loans,” says Jason Gelios, a realtor with Community Choice Realty in Southeast Michigan.
Mortgage insurance is required for each type of loan. But with a USDA loan, the mortgage insurance equates to an annual fee of 0.35%, which gets rolled into your loan. You’ll also owe a 1% Guarantee Fee, though that can also be rolled into the loan in some situations.
For an FHA loan, you’ll pay an upfront mortgage insurance premium equal to 1.75% of the loan amount as well as annual mortgage insurance over the life of the loan if you put down less than 10%. The mortgage insurance premium (MIP) for most FHA borrowers is 0.85%.
USDA vs FHA in practice
Let’s say you want to buy a $250,000 home in Massachusetts and you have a 640 credit score. If you’re considering a USDA loan vs FHA, here’s how your costs might break down assuming the same interest rate:
|Down payment||$0||$8,750 (3.5%)|
|Upfront guarantee/mortgage insurance fee which can be rolled into the loan amount||$2,500||$4,222|
|Principal and interest||$1,100||$1,070|
|Mortgage insurance (monthly)||$74||$174|
|Monthly payment (total, including taxes and insurance)||$1,441||$1,511|
While it may be simple to conclude that an USDA loan offers a better deal, FHA loans are still great mortgages, and they can be more affordable than conventional loans, especially in terms of upfront expenses. And FHA loans offer more flexibility in where you buy, your income level, and what types of properties are eligible.
Need for speed: Which loan closes faster?
When sizing up a USDA loan vs. FHA loan, it’s also useful to consider closing times.
Overall, an FHA loan tends to close faster due to the commonality of these loans versus USDA loans – which are less common.
“USDA loans are more focused on rural and suburban area homes and are reviewed by a completely different department aside from the lender review,” Gelios says. “I have seen this part of the process tack on an additional week or two for approval of a USDA loan.”
Remember that a shorter closing time can make or break an offer in today’s red hot home buying market, so weigh this factor carefully if you qualify for both loan types and you’re buying in a competitive area.
USDA loan vs FHA FAQs
It really depends on your situation.
Jake Hill, CEO of DebtHammer, says that if you live in a rural or suburban area, have an average income for that area, and have a credit score of 640 or higher, the USDA loan may be a better option for you.
“But most others are better off with an FHA loan or conventional loan,” he says. “These loans have no residency or location requirements or income limits, and the acceptable credit score is much lower.”
Plus, FHA loans tend to close faster than USDA loans.
The plusses of a USDA home loan include no set maximum purchase price, low interest rates with fixed-rate terms, and no down payment required. However, only eligible properties in approved rural and suburban areas qualify for a USDA loan, and USDA loans often take longer to close than FHA loans. You also need to meet the income eligibility limits to get approved for a USDA loan.
It can often take 30 to 45 days to close on a USDA loan, though closing times can be shorter depending on your lender and circumstances. In general, it usually takes longer to close on a USDA loan than an FHA loan, in part because the USDA itself must sign off on the application.
Which loan works best for you?
The best loan option for you depends on your needs, financial situation, and timeframe.
“If you are looking to purchase a home in a rural or suburban area, you should consider a USDA loan because it’s tailored for those types of properties,” says Gelios. “But if you are not completely focused on purchasing a home in a rural area, you should look into an FHA loan option first. FHA mortgages offer much more flexibility, fewer eligibility requirements, and a faster closing.”
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 the VA, HUD, FHA, USDA, or RD, and were not approved by a government agency.