In rural areas, the barndo farmhouse style has been the de facto choice for new construction. With the increased interest in this type of construction, has come unique challenges with traditional mortgages. In fact, over half of our new builds are 100% owner financed. As in, the banks do not generate any type of mortgage loan.
With that type of financial requirement, many folks have been left out of the farmhouse boom. Thankfully, USDA (United States Department of Agriculture) construction loans are specifically designed to cater to rural properties and low-income families.
What Is A USDA Construction Loan?
A USDA construction loan is a special type of mortgage loan backed by the United States Department of Agriculture (USDA) for rural areas. It serves to help homebuyers finance the construction and purchase of a property in designated rural areas. One of the main benefits of this type of loan is that it requires no down payment, and allows for a single closing for both construction and permanent financing, simplifying the borrowing process.
USDA construction loans, also known as construction-to-permanent loans, enable borrowers to purchase land and construct their dream home using a single mortgage product.
How Do USDA Loans Work?
Unlike traditional home financing, which usually involves obtaining separate loans for construction and permanent financing, a USDA construction loan starts as a construction loan that transitions into a permanent mortgage when the building process is completed. This one-time close mortgage allows borrowers to focus on a single set of closing costs and interest rate.
USDA Construction Loan Requirements
The USDA loan program mainly aims to make housing affordable for middle-income and low-income households in eligible rural or low-income areas.
To qualify for a USDA construction loan, both the property and the borrower must meet specific requirements. The property must be the borrower’s primary residence, and the builder must be a USDA-approved contractor.
For the borrower, a minimum FICO® credit score of 640 is usually needed, along with a debt-to-income ratio of 41% or less. The borrower’s income must also stay below the USDA income limit, which varies depending on the location.
Eligibility Requirements
Several factors determine USDA loan eligibility:
- Citizenship: Applicants must be U.S. citizens or permanent residents.
- Income: Total household income should be within 115% of the median local household income, typically below certain thresholds varying by state.
- Credit Score: The majority of lenders require a credit score of at least 640, but manual approval may be given for scores as low as 600 with compensating factors.
- Stable Employment: A history of consistent employment for at least two years is required.
- Property Location: The property, be it a newly built or existing barndominium, must be located in an eligible rural area as defined by the USDA.
Key Benefits of USDA Loans for Barndos
When it comes to financing a barndominium, the United States Department of Agriculture (USDA) offers a promising solution. USDA loans have several key benefits that can make constructing a barndominium more accessible for eligible applicants.
No Down Payment Required: USDA loans offer 100% financing, removing the need for a down payment. Compared to traditional construction loans that may require a 20% down payment, USDA loans can significantly reduce initial costs and make it easier for applicants to start building their dream home.
Lenient Eligibility Requirements: USDA loans are known for having more lenient eligibility requirements compared to other traditional financing options. With lower income requirements and allowances for credit scores as low as 600, applicants have a better chance of qualifying for a USDA loan. This is particularly helpful for low-income applicants and those with less-than-perfect credit scores.
Fewer Closing Costs: USDA loans only require a single closing for the land purchase, construction, and mortgage, which means that applicants only need to pay closing costs and appraisal fees once. This can further lower the overall cost of constructing a barndominium.
Competitive Interest Rates: USDA loans often come with competitive interest rates, as low as 2.5% for low-income borrowers. With fixed interest rates, applicants can be assured that the rate remains the same throughout the life of the loan, providing financial stability and predictability.
Wide Range of Coverage: USDA loans can cover various costs associated with barndominium construction, including land purchase, inspection fees, administrative fees, builder’s insurance, and even landscaping. By providing comprehensive financial support, USDA loans help make constructing a barndominium a more manageable project for eligible applicants.
However, despite these advantages, it is essential to consider that USDA loans are only available for specific rural areas and low-income communities. Please check the USDA Income and Property Eligibility Map to ensure the desired building location qualifies for a USDA loan. Additionally, the loan application and approval process may take longer compared to other traditional financing options, so potential borrowers need to factor in these extra processing times.
The Application Process
This type of loan combines a construction loan with a traditional 30-year fixed USDA loan, offering the primary benefit of a single closing, which helps homebuyers save on closing costs.
Before construction begins, the lender receives the loan note guarantee, adding confidence in the loan process. To ensure a successful project, the USDA requires lenders to approve any builders or contractors the homebuyer wishes to use. Eligible contractors must meet the following requirements:
- Minimum of 2 years of experience in building single-family homes
- Possession of a construction or contractor license
- Evidence of at least $500,000 in commercial liability insurance
- No open judgments and a satisfactory credit history
- Passing a background check, with no past felonies
If a homebuyer faces difficulties finding a builder meeting these requirements, the lender may provide assistance.
The USDA single-close loan covers various costs, including those detailed in the contract between the homebuilder and borrower. Some of these costs include:
- Payments to subcontractors for work on the home, such as septic, driveways, utilities, and landscaping
- Costs to acquire the land or pay off the land’s balance
- Additional expenses, like surveys, permits, appraisals, inspections, architectural design plans, plan reviews, and lender construction administration fees
The homebuyer must meet income and eligibility requirements, and the property must be in a USDA-approved location. There are additional stipulations for the single-close loan, including:
- The home meets the current International Energy Conservation Code (IECC) or subsequent code for thermal standards
- Homebuyer receives a new construction warranty from the builder
- Excess funds from construction must go directly towards loan principle
- Funds can be used for single-family homes, manufactured homes, and eligible condominiums
To determine your eligibility for a USDA loan, it is recommended to consult with a USDA loan specialist.
Understanding USDA Loan Terms and Conditions
As we’ve shown in this guide, USDA loans offer a great opportunity for those looking to build or purchase barn homes in rural areas. These loans come with favorable terms and conditions, making them an attractive option for eligible borrowers.
One of the key advantages of USDA loans is the low-interest rates. They are often fixed-rate loans, which means the interest rate will not change throughout the entire life of the loan. This can provide stability and predictability for homeowners during the loan repayment process.
USDA loans have flexible credit and income requirements. While having a good credit score can help, it is not mandatory to secure the loan. Borrowers with lower credit scores may still be eligible if they meet other lender guidelines. Additionally, the total household income must be within 115% of the median local household income to qualify.
Keep in mind, there are some restrictions in place to protect both borrowers and lenders.
For instance, the property must be located in a USDA-eligible area, meaning it must be in a rural region or a small town with a population not exceeding certain limits. Furthermore, the property must meet specific standards for safety and livability.
In terms of repayment, these loans often have extended loan terms up to 30 years, thus lowering monthly payments and making them more manageable for borrowers. It’s important to note that there may be penalties for early repayment or defaulting on the loan. Always consult with a lender to discuss your specific situation and understand the terms and conditions in detail.
5 Tips for Successful USDA Loan Application
To increase the chances of a successful USDA loan application for your barn home, follow these essential tips.
1. Choose the right USDA loan program: USDA offers two main loan programs: the Guaranteed Housing Loan Program and the Direct Housing Loan Program. The Guaranteed Housing Loan Program is suitable for applicants with low to medium income, while the Direct Housing Loan Program targets applicants with very low income. Determine which program suits your financial situation before applying.
2. Meet the eligibility requirements: To qualify for a USDA loan, you must fulfill specific eligibility criteria, such as being a U.S. citizen, having a total household income within 115% of the local median household income, and satisfying the USDA lender’s financial standards.
3. Choose a suitable location: USDA loans are designed for properties in rural and suburban areas. Therefore, ensure that your barn home is situated in an eligible area as determined by the USDA.
Here are some pointers to make your application stand out:
- Credit score: Maintain a good credit score, ideally 640 or higher, to improve your chances of approval.
- Debt-to-income ratio: Keep your debt-to-income ratio below 41%, as having a lower ratio is preferable for loan approval.
- Employment history: A stable employment history of at least two years is desirable.
4. Submit complete documentation: Prepare and submit all required documents, including income and employment proof, credit history, and details about the barn home, with your application. Incomplete documentation may delay the approval process.
5. Work with a qualified lender: Select a lender with experience in USDA loans who can guide you through the process and help you choose the right loan program.