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The Rural Housing Service Loans – How It Works, Pros and Cons

The Rural Housing Service has several programs that aim to build or improve housing and essential community facilities in rural areas. They make loans, grants and loan guarantees available for purposes or uses. We've summarized eveyrthing you need to know - the different options, how does it work and main pros & cons

You probably know that the United States Department of Agriculture has a division called the Rural Housing Service.

They have several programs that aim to build or improve housing and essential community facilities in rural areas. They make loans, grants and loan guarantees available for purposes or uses.  These are single or multi-family housing, child care centers, fire and police stations, hospital, libraries, schools, nursing homes, first responder vehicles and equipment, housing for farm laborers and many others.

This does not mean that they give out the loan freely – not everybody can get it.  It means that if you can get a loan from a traditional lender, the Rural Housing Service steps in and guarantees the loan.  If the borrower defaults on the loan, the Rural Housing Service pays the lender in behalf of the borrower.

The Rural Housing Service – What Are Your Options?

The Rural Housing Service also partners with non-profit organizations, Indian tribes, federal government agencies and local communities for other services.  They provide technical assistance loans and grants.

1. Single Family Housing Direct Home Loans

They also refer to this as the Section 502 Direct Loan Program.  The program assists low and very-low income applicants avail of decent, safe and clean housing in eligible rural areas.  They do this by providing payment assistance to improve the applicant’s repayment ability.  Payment assistance is a subsidy that reduces the mortgage payment of the borrower for a short time.  They determine the amount of assistance according to the adjusted family income.

What Are The Qualifications?

To qualify for a Single Family Direct Home Loan, there are several eligibility requirements.  Basically, they focus on the borrower’s adjusted income before they grant approval.  It should be within or below the applicable low-income limit for the area where they wish to buy a house. The borrower must also demonstrate the ability and willingness to repay a debt.

How Much Can You Borrow?

The applicant’s repayment ability will be the basis for the maximum loan amount he can qualify for.  The ability to repay considers factors such as income, debts, assets and the amount of payment assistance that he is eligible for.

However, even if the applicant has high repayment ability, he cannot borrow more than the Area’s Loan Limits for the country where the desired property is located.  The loan limit also incorporates some financing costs in its determination.

2. Single Family Housing Guaranteed Loan Program

This program makes available to low and moderate-income households the opportunity to own residences in eligible rural areas.  These residences are modest, decent, safe, sanitary and adequate dwellings for their families.  Eligible beneficiaries may build, rehabilitate, renovate, improve or relocate a dwelling in a qualified rural area.  The program will provide a maximum 90% loan note guarantee to approved lenders.  This is to avoid extending 100% loans to eligible rural homeowners thereby reducing risks.

What Are The Qualifications?

Applicants must meet certain requirements in order to qualify.  The requirements ensure that the program will not be abused by certain individuals or groups.  Applicants must:

  • First meet income-eligibility by providing documents that prove their actual monthly income.
  • Intend to occupy the dwelling as their primary residence and has no intention of renting it out to other people
  • Be citizens of the U.S., U.S. non-citizen national or Qualified Alien
  • Prove that they have the legal capacity to enter into a loan obligation agreement
  • Not have been previously suspended or debarred from other federal programs.
  • Demonstrate the willingness to meet their credit obligations in a timely manner

And of course, the property that they are intending to purchase must meet all the program criteria.

3. Multi-Family Housing Loan Guarantees

The program aims to increase the availability of affordable rental housing for low and moderate-income individuals and families in selected rural areas and towns.  In partnership with qualified private-sector lenders, they provide financing to eligible borrower landlords so they can rent out more homes.

What Are The Qualifications?

Private lenders who want to participate in the program may apply for a loan guarantee for the loans they provided to eligible borrowers.  These are borrowers who are building or preserving affordable rural rental housing.  These lenders are automatically eligible if they are approved and active in any of the following qualified programs.  These are:  Fannie Mae, Freddie Mac, Ginnie Mae, HUD, Federal Home Loan Bank members and state or local housing finance agencies.

Eligible borrowers are most state and local governmental entities.  However, there are others such as nonprofit organizations, for-profit organizations (including LLC’s) and federally-recognized tribes.

There are other requirements in the program.  First, the rent for individual units should be a maximum of 30% of 115% of area median income.  The average rent for an entire project must not exceed 30% of 100% of area medium income (adjusted for family size).  This includes tenant-paid utilities.  A complex must have a minimum of five units.  The program allows units in the complex that are detached, semi-detached, row houses or multi-family structures.

The Approval Process

To get approval, applicants must actually go through a two-part process.  They must first qualify and secure approval through one of the government-approved lenders. Then, they should submit an application to the Rural Housing Development Authority in order to gain approval for the guarantee program.

In most cases, the lender takes care of sending the application to the Rural Housing Development Authority.

Rural Housing Service Loans – Benefits

  • Probably the biggest advantage of this kind of loan program is that it helps people get loans.  Lenders are much more likely to grant loans when it is the US government itself that stands behind the loan.  People with low income or questionable credit are the ones most likely to appreciate this program.  Because of the guarantee, they have a better chance of getting approval than with a traditional loan arrangement.
  • Under the guaranteed loan program, borrowers need to have an income under 115% of the median income in your area.  With this type of loan program, they do not need to make a down payment on the house.  However, they must be able to afford the monthly mortgage payment, property taxes and insurance on the house.  They must also have a decent credit rating.
  • Another benefit is that the closing costs do not have to come out of their own pockets.  If the borrower can get a gift or a grant to cover the closing costs, they can do that.
  • We’ve said that borrowers need not pay a down payment for the house.  The terms of the USDA Rural Development home loan allow borrowers the flexibility to pay zero out of pocket for the down payment.  In addition to that, the program allows borrowers to use gifts or grants that they receive to apply to their mortgage.
  • Because they know that the US government has guaranteed the loan, lenders offer competitive rates to borrowers.  In 2014, the USDA began offering a 15-year fixed mortgage rate.  The rates are often below market.
  • To qualify, borrowers must still submit a credit history report.  However, the guidelines allow for some flexibility so homeowners with spotty or bad credit can still qualify for a loan.
  • The USDA Rural Development program does not set a ceiling on home purchase price.  However, the lender will still determine the maximum loan amount for each

Rural Housing Service Loans – Disadvantages

As in any program, there are both good and bad aspects. Let us now look at the ‘cons’ of the USDA guaranteed mortgage.

  • Since the program is primarily for low to moderate income earners, it may be a disadvantage to people who earn over the allowable limit.  Borrowers should check with their lenders to determine the prevailing limits.
  • The program also has several criteria on the property that borrowers wish to purchase.  The operative word for it is “modest”, meaning it should be free from luxury features (such as a swimming pool).  Furthermore, the home should be in an area that the USDA has designated as “rural’. The USDA definition of rural areas is an “open countryside, rural towns (places with fewer than 2,500 people).”
  • For those who are planning to use the home as a rental, they will not qualify.  Borrowers should intend to dwell in the home that they purchase.
  • Borrowers must pay an upfront fee of 2.75% of the loan amount.  The lender will add the amount to the loan so borrowers do not need to shell out the cash immediately. Another fee is one that costs 0.50% which takes the place of the insurance premium for FHA loans or private mortgage insurance on conventional loans.  The fee stays in effect as long as the loan is outstanding.  Borrowers must pay this every year.
  • The USDA and the lender subject the loan to underwriting.  This process causes the closing to take a few weeks longer compared to other loans.