What’s new with VA loans?
Veterans Administration (VA) loans are a great way for military veterans and active service members to realize the American dream of owning their own home, but they come with some special requirements. As Veteran’s Day approaches, review the benefits and qualification criteria of this type of financing so you can help your eligible buyers make the right choice.
VA loans are backed by the U.S. Department of Veterans Affairs and offer many potential benefits to vets, active service members, and select military spouses who qualify when compared to conventional mortgages. Here are their main benefits:
No down payment. With VA loans, clients don’t have to make a down payment when buying a home. This means they can finance 100 percent of a home’s purchase price. Many home buyers and mortgage experts consider this to be the biggest benefit of VA loans because it enables qualifying borrowers to buy a home much sooner than if they had to save enough money for a sizeable down payment.
In comparison, conventional mortgages typically require a down payment of at least 5 percent, and FHA mortgages typically require a down payment of at least 3.5 percent. On a $250,000 mortgage, this translates into a $12,500 down payment on a conventional mortgage and an $8,750 down payment on an FHA mortgage.
The average VA borrower only has about $9,000 in total assets, so the no-down-payment feature of VA loans is clearly a big benefit for borrowers who qualify.
No mortgage insurance. Another major benefit is that unlike conventional and FHA mortgages, VA Loans don’t require borrowers to purchase mortgage insurance. With conventional loans, this insurance is referred to as private mortgage insurance (PMI) and with FHA loans, it’s referred to as a mortgage insurance premium (MIP). Veterans taking out VA loans save more than $40 billion a year in mortgage insurance costs.
If conventional borrowers make a down payment of less than 20 percent, they will usually have to pay for PMI until they’ve built 20 percent equity in the home. This payment, which often exceeds $100 a month, is added to the monthly mortgage payment. Over time, conventional borrowers can end up paying tens of thousands of dollars in PMI.
FHA borrowers, meanwhile, must pay MIP regardless of how much money they put down on a home. The FHA charges both an upfront mortgage insurance premium of 1.75 percent (which is folded into the loan financing) and a monthly mortgage insurance premium of up to .85 percent of the loan amount, which is added to the monthly mortgage payment. The monthly insurance premium alone can add around $170 a month to a mortgage payment depending on the loan size.
The monthly FHA premium can be cancelled after 11 years if the borrower makes a down payment of at least 10 percent or the mortgage’s term is 15 years or less. Otherwise, it remains for the life of the loan — again, potentially adding up to tens of thousands of dollars in additional expense.
Note that there is a mandatory funding fee with VA loans that helps provide long-term funding for the program. However, the fee can be folded into the loan financing — it doesn’t have to be paid at closing. If your client has a service-related disability and receives VA disability compensation, or if your client is the unmarried surviving spouse of a veteran who died in service, he or she will be exempt from paying this fee.
Flexible approval guidelines. Due to the VA loan guaranty, lenders often apply less stringent credit requirements to VA borrowers than they do to those applying for some other types of home financing. This means that military veterans and active service members who perhaps haven’t been able to maintain a high credit score may still qualify for a home mortgage.
The minimum credit score needed to qualify for a VA mortgage is 620. Lenders often want to see a higher credit score than this for borrowers applying for a conventional mortgage, especially if borrowers want to receive the lowest interest rate. With FHA loans, however, lenders may approve borrowers with credit scores as low as 580.
Additionally, lenders usually allow VA borrowers to possess higher debt-to-income (DTI) ratios. This ratio compares a borrower’s existing debt to his or her income to help lenders determine their ability to repay the mortgage loan. The maximum DTI needed to qualify for a conventional mortgage is now 50 percent. Even so, lenders may allow DTIs as high as 55 percent for VA loans, depending on the borrower’s credit score and other factors.
Also, your clients may be able to secure a VA loan sooner than other types of mortgages after experiencing serious financial difficulties. In certain situation, borrowers may be approved for a VA loan within two years of a home foreclosure or short sale and within one year of filing for Chapter 13 bankruptcy.
Here are a few more potential benefits of VA loans for military veterans, active service members, and select military spouses who qualify:
1. Limitations on buyer closing costs — The VA places limits on what borrowers can be charged in fees and closing costs. Borrowers can ask the seller to pay all loan-related closing costs as well as up to four percent of the home’s purchase price in concessions for such items as prepaid taxes and insurance.
2. Lower average interest rates — The VA guaranty lowers banks’ risk when making VA loans, which enables banks to charge lower interest rates. The interest rate on a VA loan is typically 0.5 to 1.0 percentage points lower than the rate on a conventional mortgage.
3. No loan prepayment penalties — Some mortgages assess penalties if borrowers want to pay off a mortgage early in order to save on interest charges. VA loans do not charge any prepayment penalties.
4. Mortgages are assumable — This is an especially valuable benefit when interest rates are rising like they are now. When borrowers decide to sell their home, the buyer may be able to assume their current VA mortgage instead of applying for their own loan if they are VA-eligible. This, in turn, could make it easier to sell a home if interest rates are higher in the future than they are today.
5. Flexible refinancing options — Borrowers can refinance an existing VA loan into another VA loan using the VA’s Interest Rate Reduction Refinancing Loan program (IRRRL). They can also refinance into a non-VA loan if they choose.
6. Foreclosure avoidance advocacy — VA staff members are devoted to working on behalf of homeowners experiencing financial difficulties, helping them find alternatives to home foreclosure. These efforts have helped more than half-a-million veterans stay in their homes and avoid foreclosure since the housing and financial crisis.
Also, borrowers can apply for additional VA loans as many times as they want throughout their lifetime — it’s not a one-time benefit. They don’t have to pay back one VA loan before applying for another one, which means borrowers can have more than one VA loan at a time.