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The process of applying for a USDA loan has more on the line than just finances and real estate – applicants’ hopes and dreams are also involved. When an application gets denied, it can feel like those aspirations are out of reach.
If your USDA loan was denied, don’t give up yet. A denial doesn’t prevent you from reapplying. But before you try again, it’s crucial to identify the reason(s) your application was denied in the first place and what you can do about it.
How often does the USDA deny loans?
The denial rate for USDA loans varies by year. Based on the most recent Home Mortgage Disclosure Act (HMDA) Data, the denial rate for USDA loans was around 14% nationwide.
Can your USDA loan be denied after pre-approval?
Yes, it's possible for a USDA loan to be denied even after you've received pre-approval. It’s also possible for a USDA loan to get denied at closing.
Getting a USDA mortgage includes many stages of checks and verifications, both of your information and the home you intend to buy. The final loan approval comes only after the underwriting process is complete, and all borrower and property conditions are satisfactorily met. At any point during this process, the lender has the right to change their mind.
Reasons Why a USDA Loan Would Get Denied
Whether it’s the borrower or the property itself, there are several reasons a USDA loan may get denied, including:
Debt-to-Income Ratio: Your debt-to-income (DTI) ratio measures your monthly debt payments against your gross monthly income. If your DTI ratio is too high, lenders may question your ability to manage additional loan payments.
Income Limitations: USDA loans are intended for individuals with low to moderate income. If you exceed the USDA's set income limits for your area and household size, you won't qualify.
Property Eligibility: USDA loans are specifically for properties that the USDA has designated as “rural.” If the property isn’t in an eligible area, it won't qualify for a USDA loan. You can use Neighbors Bank’s Property Eligibility Map to check if an address meets qualifications.
Credit History and Score: While USDA loans have more lenient credit requirements compared to conventional loans, a very low credit score or a history of bankruptcy, foreclosures or short sales can lead to denial.
Employment Stability: Lenders typically require a stable work history, usually two years or more with the same employer or in the same line of work. Changes in employment status or employer aren’t always a deal-breaker, but they’re definitely evaluated on a case-by-case basis.
Insufficient Savings: While USDA loans do not require a down payment, having little to no savings can be a concern for lenders. They often want to see some financial cushion to cover closing costs, homeowner's insurance and property taxes.
Appraisal Issues: All homes purchased with a USDA loan must undergo a USDA appraisal, which determines the property’s value and evaluates it for livability and functionality standards. The property must appraise for the sale price or higher. If the appraisal comes in lower, it can lead to loan denial unless adjustments are made to the sale price or the borrower can cover the difference.
Property Intended Use: As outlined by the occupancy requirements, USDA loans may be used for primary residences only. If the property is intended as an investment property or a vacation home, the loan will be denied.
What to Do if Your USDA Loan Application Gets Denied
If your loan application is denied, lenders must send you an adverse action notice, which details the reason(s) for your application’s denial. This notice can be written, electronic or verbal, depending on the circumstances. Whether it's improving your credit score, stabilizing your income or finding a property that meets USDA guidelines, knowing what went wrong is the first step in making successful future loan applications.
If the decision was based in whole or in part on information from your credit report, the lender must provide the name, address and phone number of the credit bureau that supplied the report. You are entitled to a free copy of your credit report from that bureau if you request it within 60 days of receiving the denial notice. The notice should also inform you of your right to dispute the accuracy or completeness of any information in your credit report that the lender used in their decision.
If you believe the loan denial was unfair or incorrect, or if you need further clarification on the reasons for denial, you can reach out to the lender for more information or consult with a legal professional for guidance.
