Sounds like a pretty good deal, right? Getting a home loan that’s guaranteed? And a VA loan no less that doesn’t need a down payment? The term does sound attractive but it doesn’t mean exactly what is sounds like. For those that are VA loan eligible, it sounds as if the veteran is going to be guaranteed a mortgage. No matter what. That’s probably still a prevailing myth about VA loans and the guarantee but we need to explain further.
The VA loan is reserved for veterans, active duty soldiers with at least 181 days of service, certain National Guard and Reserve members with at least 181 days of service and unremarried surviving spouses of those who died while serving or as a result of a service-related injury. And really for someone that’s eligible while also wanting a loan that doesn’t require a down payment, the VA loan has no peer. Further, it carries that VA loan guarantee. But the guarantee is not for the applicant it’s a guarantee to the lender.
If a VA approved lender gives the “thumbs up” to a loan application, the lender is granted a guarantee. Should the loan ever go into default the guarantee is in place as long as the lender used proper VA approved protocol while underwriting the loan. In case of default, which is extremely rare for a VA loan by the way, the lender is compensated at 25 percent of the loss.
This compensation is financed with a form of mortgage insurance the VA refers to as the Funding Fee. The funding fee can vary based upon various factors but for someone using the VA loan benefit for the first time, zero down and a 30-year fixed rate loan selection, the funding fee is 2.15% of the sales price. This mortgage insurance policy does not have to be paid for out of pocket but is typically rolled into the final loan amount.
The VA guarantees the 25 percent because it relates back to how the VA sets maximum home loan commitments for applicants. When someone applies for a VA loan the lender makes a request to the Department of Veteran’s Affairs for a copy of the Certificate of Eligibility, or COE. This certificate will show how much entitlement the veteran has. Currently, the entitlement amount is $36,000. The VA set the maximum VA loan amount at four times that amount, or $144,000. But in many parts of the country, that’s too low of an amount to finance a zero-down purchase.
In response, the VA changed the limits several years ago that if the sales price of the home was greater than the $144,000 figure, the maximum home loan amount would match the current limit of Fannie Mae or Freddie Mac. Today, that maximum for most parts of the country is $484,350.
Borrowers still have to qualify based upon verified income, employment, credit and other factors just as with other loan types, but with a VA loan, if there is a default, there is some compensation coming directly from the VA, paid for by a policy purchased by the buyer.