USDA Rural Development Section 502 Direct Loan Program Overview and Frequently Asked Questions Updated 9-1- 2012 The USDA Rural Development 502 Direct Loan offers mortgage options to low-income homebuyers in rural areas. This recently approved financing option allows Habitat for Humanity affiliates to extend their reach into the community and help even more low-income families realize the dream of homeownership. Section 502 Direct Loans are made to low- and very low-income households up to 80 percent of the Area Median Income. The housing eligible for the program must be modest in size, design and cost. In most instances no down payment is required, and interest rates are subsidized by the federal government. The amount of the loan a family can obtain is determined, in part, by a family s ability to repay it (typically the family must be able to afford the mortgage payments, including taxes and insurance, which are generally 24 percent of their household s adjusted annual income). Loans are amortized over 33 or 38 years (with the longer amortization period available especially for those below 60 percent AMI). The 502 Direct Loan program is in keeping with Habitat for Humanity s core concept of including low-income partners in their own housing solution. Homebuyer education for first-time homeowners is a requirement of the program. Homebuyer education must be completed before closing and be provided by an approved USDA provider. If an affiliate chooses to use this program, it should be incorporated as part of an overall strategy to assist the sustainability of the affiliate and support its work into the future. 1. When were affiliates given the ability to use the Section 502 Direct Loan program? The U.S. Subsidy and Sustainability Policy Mortgage Finance restricts U.S. affiliates from charging interest on mortgage financing they provide directly to Habitat for Humanity homebuyers. However, the policy does allow U.S. affiliates options to partner with government and private funders that offer low-interest or zero equivalent options, as they deem appropriate at the local level. For more information on the U.S. Subsidy and Sustainability Policy, please access this My.Habitat link: http://my.habitat.org/globallink.aspx?gid=g2f27b
2. What does third-party financing mean? The Section 502 Direct Loan program is one of two third-party financing options that affiliates have been authorized to use through the U.S. Subsidy and Sustainability Policy; the other is the zero-equivalent mortgage (additional information on this option is available on My.Habitat). In this context, third-party financing means that the loan will be between the homeowner and the USDA. Habitat affiliates will identify partner families who would be most likely to qualify for this funding and work with them to submit an application to the USDA Rural Development office. 3. Is this program the same as the USDA Section 502 and 523 Mutual Self Help Housing Program? The USDA has a number of Section 502 loan programs and products. The Section 502 Direct Loan is not the same as Mutual Self Help Housing. 4. What are eligible uses for a Section 502 Direct Loan? As they pertain to Habitat, Section 502 Direct Loans may be used to buy, build, rehabilitate, improve or relocate a dwelling, and provide related facilities for use by the applicant as a permanent residence. Housing must be modest in size, design and cost. A modest property is considered modest for the area, does not have market value in excess of the applicable area loan limits, and does not have certain prohibited features. Houses constructed, purchased or rehabilitated must meet voluntary national model building code adopted by the state and thermal and site standards. 5. How is the maximum loan amount determined? The amount of a loan that a partner family can obtain is determined by: The family s repayment ability (typically the family must be able to afford the mortgage payments, including taxes and insurance, that are generally 24 percent of a household s income); The appraised value of the property; and Modest dwelling limits (Rural Development Area Loan Limits).
6. Who are eligible borrowers? Eligible borrowers must be low- or very low-income households (up to 80 percent of AMI) in rural areas. They must have an adequate dependable income to meet family living expenses, taxes, insurance, maintenance and debt retirement on the housing loan. Eligible borrowers must meet minimum credit requirements they must be unable to obtain credit elsewhere to buy a home yet have reasonable credit histories. Please remember that Habitat for Humanity s target population is those at 30-60% of AMI. 7. How do borrowers apply for a Section 502 Direct loan? Affiliates should work with their partner family applicants to identify those appropriate for referral to the Section 502 Direct Loan program. The USDA application is submitted to a local USDA field office but the affiliate should facilitate this process between the partner family and the USDA. It s important for the affiliate to build a relationship with the USDA office in order to understand the requirements and appropriate timing of applications to the loan program. 8. What qualifies as a rural area for purposes of this funding? The eligibility of an area and specific address for this program is determined by USDA Rural Development. The general definition is an area that is: not associated with an urban area and has less than 10,000 population. not contained within a Metropolitan Statistical Area (MSA), has a serious lack of mortgage credit, and has a population of 10,000 20,000. 25,000 in population that has been grandfathered in until the results of the 2010 census are available. This Web site can give you general guidance about the eligibility of a property, but the final word belongs to the local USDA office: http://www.rurdev.usda.gov/rhs/ 9. Can you explain the interest component of this program? The USDA establishes the note rate, which is the current mortgage interest rate. However, mortgage payments are based on the household s adjusted annual income and based on the specific financial circumstances of a family, the government generally subsidizes this rate. The rate the homeowner pays can be as low as one or two percent. The monthly payment on a 33- year USDA mortgage may be less initially than the monthly payment for a traditional 20- or 25- year Habitat mortgage.
10. Is it an HFHI requirement to change the 502 Direct Loan Program into a Zero- Equivalent Mortgage? No. The Zero Equivalent Mortgage is another third-party financing option provided for in the US Subsidy and Sustainability Policy. The Zero Equivalent Mortgage and the USDA Rural Development 502 Direct Loan Program are two separate approaches. The 502 Direct Loan is an interest-bearing loan that is subsidized by the federal government in order to make payments affordable to target homeowners. In some cases, the monthly payment may be less initially than the typical monthly payment under the Habitat program at zero percent interest. 11. I understand this program also involves subsidy recapture. What is that? Subsidy recapture refers to the amount of subsidy paid by the federal government that must be repaid by the homeowner when the property is transferred, sold, or paid in full. The total amount of recapture will be the lesser of: total subsidy received over the life of the loan. up to 50% of the adjusted value appreciation in the property. The government will not recapture more than it provided in the subsidy. 12. I have heard that one requirement of the program is that families must have a 640 credit score to qualify? Is this correct? A credit score lower than 640 does not automatically disqualify an applicant. It does, however, require additional information such as a credit history worksheet (provided by USDA) from the potential home buyer. A good payment history for at least the most recent 12-months prior will be taken into consideration. Discuss this with your local USDA office. 13. Can we use Softwood Lumber grant funds and products available through HFHI s gifts-in-kind programfor houses financed by USDA 502 Direct Loans? Other than Softwood Lumber grant funds, gift-in-kind materials can be used in houses financed by the USDA 502 Direct Loans. 14. Can we use this funding as a construction loan? Although a local Rural Development office may suggest using USDA 502 money as a construction loan allowing affiliates to take up to 4 draws during the build cycle, due to the complexity, HFHI does not generally advise or recommend this model to affiliates. There are
numerous issues that need to be defined and addressed and this approach should be evaluated on a case-by-case basis. If you would like additional information on this approach or have questions, please contact USDA502@habitat.org. 15. If our affiliate decides to participate in this program, is there any assistance available from HFHI? Habitat for Humanity International is committed to assisting affiliates in utilizing the USDA 502 Direct Loan program. We can assist with virtual trainings with executive directors and boards of directors and/or conduct one-on-one discussions to give guidance and help resolve issues. The other vital component for successfully utilizing this program is getting to know your state and local USDA Rural Development personnel. Each state has a state RD office and several area field offices. Each state s USDA Rural Development office is responsible for the specific process for that state. The amount of money available will differ in each state. The field offices can provide guidance to you and it is extremely important to build a relationship with your local field office. You can find the nearest field office in your state by accessing this Web site: http://www.rurdev.usda.gov/ 16. How far in advance should we incorporate this program into our affiliate efforts? Before utilizing this program, the board should discuss and adopt a revision to its policies, stating that the affiliate will begin offering financing options to home owners. In addition, the family selection committee will need to update its selection process to include an overview of the financing options. For more information, please contact USDA502@habitat.org 17. Our affiliate is interested in participating in this program, what should we do now? Open discussion is needed by your board of directors of how this funding vehicle can be part of a total affiliate approach to financing your work and providing access to homeownership to more families. In order to do this, the board must understand the program and its requirements. HFHI Organizational Development Consultant Laurie Foor can give you more information and help you understand what questions to ask your local USDA field office. Contact Laurie at USDA502@habitat.org