Should you choose a VA loan or conventional mortgage? If you are a veteran, this could be a tough decision. Both programs have their pros and cons. Below we cover the benefits of the VA program over the conventional loan.
What Type of Home are you Buying?
If you are buying a primary residence, you have the option to use your VA loan benefit. VA loans are only for primary residences. You cannot get around this requirement, either, as you have to certify on the closing documents that you will live in the home as your primary residence.
The reason is that the VA program is self-funded. The VA guarantees loans for VA lenders in the face of default by using the funds received from borrowers paying the VA funding fee. It’s a program that’s meant to help veterans buy a home to live in; it’s not a program to help veterans start an investment portfolio.
VA loans often have lower interest rates and closing costs than conventional loans, though. If you will live in the home, using your VA benefit may make sense.
What is your Credit Score?
If you have questionable credit, you’ll either pay a higher rate or higher costs for the loan if you go the conventional route. VA loans have much more flexible credit score guidelines.
You may not know your actual credit score quite yet, but there are several ways you can get it. At the very least, you can see a copy of your credit report by visiting this link. This will give you an idea of any negative accounts reporting on your credit report. It also gives you a chance to fix things up if you think they may affect your chance of getting a loan.
If you want your actual credit score, you can pay for a credit report or check with your bank and/or credit card companies. Many companies today offer free credit scores as a part of their service.
Once you know your score, determine if it is at least above 620. The VA doesn’t have a minimum credit score, per se, but most lenders require at least a 620. Conventional loans, on the other hand, often require credit scores even higher. 680 is the average, but you’ll find lenders that have higher and lower requirements. If you have a credit score nowhere near 620 or just borders 620, you may not qualify for a conventional mortgage.
How Much Can You Put Down on the Home?
The down payment is another large factor. VA loans don’t require you to put any money down. That’s a great benefit. Of course, there are tradeoffs, such as only being able to use it as a primary residence. You will also pay a funding fee that is equal to 2.15% of the loan amount to secure the VA loan.
If you go the conventional route, you will have to put down at least 5% of the purchase price. If you do put less than 20% down, you will also pay PMI until you owe less than 80% of the home’s value. This could significantly add to the cost of the loan. VA loans do not require any mortgage insurance.
How Much Debt do you Have?
Finally, you have to look at your debts. This isn’t an area the VA puts a lot of emphasis directly, but it does play a role.
Conventional loans have strict debt ratio requirements – you can only have a 28% front-end ratio and a 36% back-end ratio. The VA, on the other hand, allows a maximum 43% total debt ratio. They don’t focus on the front-end ratio at all. This gives you a little more flexibility if you have more debts than a conventional lender would like.
Where the VA does put focus, though, is on your disposable income. This somewhat relates to the debt ratio. The more debts you have that take away from your monthly income, the less disposable income you have each month. The VA believes that the higher your disposable income, the less likely you are to default on your loan. In order to enforce this rule, the VA has a set amount of disposable income you must have. They base it on the area that you live and the size of your family.
So is a conventional mortgage or VA loan better for you? It depends on your circumstances. Answer each of the questions above and see how you look when it’s all said and done. Some questions will give you the answer right away. For example, do you have a down payment? If you don’t, you can’t secure conventional financing and a VA loan may be your only option.
Weigh your options and determine what suits your needs the most. Luckily, whatever decision you make isn’t permanent. You can always refinance in the future, but you want to try to make the decision that is best for you now, saving you the most money and giving you the best return on your investment.