What’s The Difference Between USDA And FHA Loans?

*Rocket Mortgage® is not currently accepting USDA loan applications.

If you’re a first-time home buyer or a borrower with low to medium income, you may have heard of other great loan options for you – besides conventional mortgages – such as the FHA loan and USDA loan. Many borrowers, however, don’t know the difference between these 2 loan types or what unique advantages each has to offer.

Depending on where you live and if you’re purchasing a primary residence or not, you could qualify for one of these loans and enjoy better interest rates and loan terms than you would get with a conventional loan. But what do you have to do to get one of these loans, and what sets them apart from each other?

Let’s break down the details.

USDA Vs. FHA Loans: What’s The Difference? 

USDA loans and FHA loans are both government-backed loans, which means that instead of being purchased by Fannie Mae or Freddie Mac, your mortgage will be backed by a government entity. The similarities between them, however, end there for the most part.

A USDA loan is a loan backed by the U.S. Department of Agriculture (USDA). These loans are intended to help low to median income individuals in rural areas achieve homeownership at an affordable cost. Since the USDA backs these loans, home buyers can get lower interest rates and more favorable loan terms than they might qualify for with a conventional mortgage.

An FHA loan is a loan backed by the Federal Housing Administration (FHA). These loans are intended for aspiring home buyers with low-to-median incomes seeking an affordable loan for a primary residence. Though you don’t have to be a first-time home buyer to qualify, FHA loans are a popular choice with people purchasing their first house. 

Eligibility

To qualify for a USDA loan, most lenders require that you have a credit score of at least 640, though this number may vary. Since USDA loans are intended for lower income borrowers, there are income requirements: your adjusted gross income can’t be more than 115% of the median income in your area.

Beyond this, you must also live in an area that’s eligible for a USDA loan in the first place. Only areas that are considered “rural” will qualify. You can check to see if your area is eligible by visiting the USDA website.

To qualify for an FHA loan, you typically need a credit score of at least 580. Some lenders will allow a score of 500 with at least a 10% down payment. There are no income requirements for an FHA loan, but you will have to prove that you have a steady source of income by providing W-2s, pay stubs, etc.

Approval Process

To get approved for a USDA loan, you will need to provide all the usual documentation to get a loan, such as your credit score, proof of income, monthly debts, etc. Before you can close, you’ll also have to get an appraisal to certify your home is located in a USDA eligible area, is livable, connected to roads and is sold at fair market value.

When getting approved for a USDA loan, keep in mind that the process to get your loan may take longer than getting an FHA loan. USDA loans are underwritten two times, once by your lender and then again by the USDA. Depending on how high your credit score is, your loan may go through either manual or automatic underwriting. Manual underwriting can take more time.

You can expect your loan to close in 30-45 days, typically. When borrowing your mortgage, the 2022 USDA loan limit in most areas is $336,500. This amount can vary by county, however, and in high-cost areas the limit may be up to $970,800.

To get approved for an FHA loan, you’ll also have to provide your income, credit score, etc. Like a USDA loan, you’ll also be required to get an appraisal. With an FHA loan, however, you’ll need a specialized appraisal known as an FHA Appraisal. The purpose of this examination of your home is not just to determine the home’s value, but also to make sure the house meets the U.S. Department of Housing and Urban Development’s (HUD) standards for health and safety.

You can expect your FHA loan to close in around 30-45 days as well, though it could take less than that depending on your situation. As for how much you can borrow, the lowest an FHA loan limit can be is 65% of the national conforming loan limit. For 2022, that’s $420,680.

In high-cost areas, however, the loan limit may be up to $970,800. Loan limits vary county-by-county, so in many areas, the limit may be somewhere between those two numbers.

Down Payment And Closing Costs

When getting a USDA loan, you don’t have to make a down payment at all if you don’t want to. That means you could literally put 0% down and just pay closing costs if you chose to.

As for FHA loans, you typically need to make a down payment of at least 3.5% of your loan amount.

Mortgage Insurance

With USDA loans, you don’t pay private mortgage insurance the way you would on a conventional loan. Instead, you pay a guarantee fee. The fee is paid upfront at closing and then every month after for the full term of your loan. The guarantee fee you pay at closing is typically around 1% of your total loan amount while the fee after that is 0.35% of your unpaid principal balance.

With FHA loans, you pay a mortgage insurance premium (MIP). You have to pay MIP for the entire life of your loan unless you make a down payment of 10% or more, in which case you would be able to stop paying MIP after around 11 years.

Your MIP payment is around 0.15% – .075% of the base loan amount each year. You’ll also have to pay for MIP upfront at closing, which generally amounts to around 1.75% of your loan amount.

Location

If you’re getting a USDA loan, as we mentioned earlier you can only purchase a home in a rural area that is deemed eligible by the USDA.

You can get an FHA loan anywhere, on the other hand, as long as the house meet’s HUD’s health and safety guidelines. 

Income

The USDA’s main income requirement is that their borrowers not make any more than 115% of their area’s median household income.

As for FHA loans, the FHA states that borrowers should not spend more than 31% of their monthly income on housing costs.

Interest Rates

As government-backed loans, USDA and FHA loans both tend to enjoy lower interest rates than conventional loans. The rates you qualify for with both of these loan types will vary depending on how high rates are at the time you are buying a house, how much you plan to borrow, your credit score, your down payment amount, etc. In general, on a purchase loan, you can expect your rates to be slightly lower than conventional loan rates.

Is A USDA Loan Or FHA Loan Better For You?

If you’re interested in these two loan options and could qualify for either, you may be wondering which one would be a better fit for you. Let’s break down some of the reasons you might lean toward an FHA or USDA loan.

When An FHA Loan Is Better

There’s a reason FHA loans are popular with many first-time home buyers. Let’s go through a few reasons you might consider this loan type.

You Live In An Urban Or Suburban Area

While both USDA and FHA loans have their perks, USDA loans definitely have some limitations. Since they’re only available to rural buyers, they severely limit where you could buy a house. If you want to buy a home in a suburban or urban area, an FHA loan might give you the low interest rate and favorable loan terms you desire without restricting you to an urban area.

You Want Looser Underwriting Requirements

As we mentioned earlier, USDA loans are underwritten twice, once by a lender and again by the USDA. If you don’t want to deal with the potential delay to your closing time or the rural restrictions, an FHA loan could make buying a house a much faster and easier process for you.

When A USDA Loan Is Better

USDA loans, while intended for a limited audience, do have their perks, too. Let’s talk about a few reasons you might choose a USDA loan over an FHA loan.

You Live In A USDA-Qualified Area

If you live in a rural area, a USDA loan is a perfect fit for you. These loans are made to help rural buyers achieve homeownership more affordably.  If you fit that category, you can reap the benefits and avoid some of the costs and complications of other loans.

You Want No-Money-Down Financing

One of the biggest benefits of getting a USDA loan is that you don’t have to make a down payment – at all. Only VA loans and USDA loans offer this benefit. The ability to buy a house with no down payment is a huge benefit that can make homeownership much more affordable for many.

FHA loans, while more affordable than conventional loans, do still require you to make a down payment. If you qualify for a USDA loan, consider whether these savings would be a big help to you.

The Bottom Line 

USDA and FHA loans are both great government-backed loan options for first-time and low-to-median income home buyers. Both offer plenty of benefits to borrowers, so if you qualify for one of these loan options, they could help you achieve homeownership sooner and more affordably than you could otherwise.

While Rocket Mortgage® doesn’t offer USDA loans at this time, if you’re interested in an FHA loan, you can start the approval process online today.