What’s the Difference Between an FHA and a USDA Mortgage
The vast majority of first time home buyers purchase their first home with using either an FHA or a USDA home loan for their financing. These two options offer some great advantages as well as some negatives. Let’s take a look at the differences.
Hopefully after watching that video you have a bit better understanding of the difference between an FHA and a USDA home loan.
FHA loans are by far the most popular of all loan options for first time home owners. The unique combination of low down payment, lenient credit qualifying, artificially low interest rates along with no income limits or property geographic limitations make this the loan of choice.
These loans are sponsored by the Federal Housing Administration (FHA) in order to increase availability of mortgage financing to those who have only a small down payment but still would like to purchase a home.
A USDA loan, where available, offers true 100% financing. Obviously, this makes it a very popular program. All that glitters is not gold, however, as I explained in the video. I’m not opposed to using the USDA loan but I do believe strongly that a home buyer should clearly understand what they’re getting themselves into here.
The obvious advantages is the fact there is no down payment and there is no monthly mortgage insurance. But nothing is free. The USDA loan is no exception. The not-so-obvious disadvantage is that you are adding over 3.5% of the purchase price onto your loan in the form of a reservation fee. Therefore you are actually borrowing not 100%, but 103.5% of the purchase price. Additionally the loan is only available on certain addresses. Basically the program is designed to encourage “rural” housing. In other words, to increase sales of homes outside of major cities like Fort Wayne.
Why is that a big deal? Well, when you go to sell a home here in Indiana you need roughly 10% equity in the property just to break even (after paying pro-rated taxes, Realtor fees, closing costs, etc). With a typical 30 year loan this borrower will not have 10% equity in their home (starting with 103.5% and assuming flat housing prices) for roughly 7 years! So, you’ve made your mortgage payments from August 2011 all the way through August 2018, you go to sell your house and walk away with… Nothing? Ouch!
Now pointing this out won’t be popular with many Realtors and even more builders. Builders can charge a premium for homes in areas that offer USDA 0% down financing because it EASY to get into the house. If you plan to purchase one of these home because you can get in with very, very little “skin” in the game, just remember, it’s “pay me now or pay me later.” Facts are the facts and you deserve to understand your options.
Personally, I encourage buyers who are using the USDA loan to set up AUTOMATIC extra principal payments along with their mortgage payments. On a $100,000 mortgage you can dramatically reduce your principal balance quickly by just adding an additional principal payment of 10% of your payment each month. Many people I’ve seen have the best of intentions, but unless it is set to AUTOMATICALLY get paid, alas, the extra payment loses out to an iPad, or braces, or a cruise, or even Starbucks. Don’t let that be you!
For a detailed post on USDA loans click here.