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What Is a VA Loan and How Do They Work?

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Maurie Backman
Author: Maurie Backman
Maurie Backman
Maurie Backman
Writer

Maurie Backman is a personal finance writer who covers topics ranging from Social Security to credit cards to mortgages to REITs. She also has an editing background and appears on live podcasts to talk about financial matters.

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If you're an active member of the military or a military veteran who's looking to finance a home, you may want to look into VA loans, which offer many benefits that other types of mortgages do not.

Here, we'll discuss how VA loans work and the pros and cons of a VA mortgage.

What is a VA loan?

A VA loan is a mortgage that's guaranteed by the U.S. Department of Veterans Affairs. Though the money you borrow to finance your home will come from a private lender, the Department of Veterans Affairs will step in and back that loan to make it easier for you to qualify.

How does a VA loan work?

Once you're deemed eligible for a VA home loan, you'll receive what's called your "entitlement," or the amount the Department of Veteran Affairs will guarantee on your loan in the event you go into default.

However, your lender may be willing to let you borrow more than the guaranteed amount, and you'll often get to borrow four times your entitlement.

Types of entitlement

There are two types of entitlement you can qualify for:

  • Basic entitlement: Either 25% of the mortgage or $36,000 -- whichever is lower.
  • Bonus entitlement: This is up to 25% of the Federal Housing Finance Agency conforming loan limit minus the basic entitlement. For most of the U.S., that limit is $510,400, and 25% of that is $127,600. Subtract from that the basic entitlement of $36,000, and you're left with $91,600 -- the maximum bonus entitlement you might get.

If your basic entitlement does not secure you a high enough loan to buy the type of home you want, you can combine your basic entitlement with your bonus entitlement to secure a higher mortgage.

Remember, you can generally borrow four times your entitlement. With a basic entitlement, that would give you a $144,000 loan, but in expensive areas of the country, that’s not enough to buy a home. As such, you could then combine your basic entitlement with your bonus entitlement for a total entitlement of $127,600, then borrow up to four times that much -- $510,400.

Requirements of a VA loan

VA loans can often be secured with no money down, though you'll need to prove that you have the necessary income to keep up with your monthly mortgage payments. Technically, there's no minimum credit score requirement for a VA loan, but the higher your score, the greater your chances of getting approved.

You may have a hard time getting a VA loan if your credit score isn't at least 620. There are mortgage options for poor credit, so in some cases, you may be able to qualify with a lower score. If your score isn’t great, it pays to work on building or rebuilding your credit before you apply.

Furthermore, you can only use a VA loan to purchase a primary home. You can't take out a VA loan to buy a vacation home or investment property. You can use a VA loan to buy one unit of a condo or townhouse, but the VA must evaluate the community before approving your loan.

Who is eligible for a VA loan?

You must meet at least one of these requirements to qualify for a VA loan:

  • Be an active member of the military, or be an honorably discharged military veteran
  • Put in 90 consecutive days of active service or more during a period of war, or 181 consecutive days of service or more during a period of peace
  • Have more than six years of service in the National Guard or Selective Reserve

If you have a spouse who died in the line of duty, you may be eligible for a VA loan as well, even if you never served yourself.

Closing costs and fees

Home loans generally come with closing costs and fees, and VA loans are no exception. You may be able to roll your closing costs into your mortgage and pay them off over time, rather than upfront. Your closing costs may include, but aren't limited to:

VA loans also come with a funding fee. If you're applying for this type of loan for the first time and you're not planning to make a down payment on your home, that fee will equal 2.3% of your home's purchase price. For subsequent applications, it's 3.6%.

If you're able to make a down payment, your funding fee will be lower. For a down payment of 5% but less than 10%, you're looking at a fee for 1.65%, regardless of whether this is your first VA loan. For a down payment of 10% or more, it drops to 1.40% for a first or subsequent application.

Benefits of VA home loans

  • No Down Payment Required: VA loans allow qualified borrowers to purchase a home with no money down, making it a great option for those who can afford mortgage payments but lack savings for a down payment. You can also use a down payment gift from friends or family.
  • No Private Mortgage Insurance (PMI): VA loans don't require PMI, which is usually added to monthly mortgage payments when a buyer puts less than 20% down, saving you money over the long term.
  • Easier Qualification: Backed by the government, VA loans are easier to qualify for than traditional loans, as lenders face less risk and have more lenient borrowing requirements.
  • Competitive Interest Rates: VA loans offer competitive interest rates, though the exact rate depends on factors like your loan amount and credit score.

Drawbacks

  • Funding Fee Instead of PMI: While VA loans don't require PMI, you will need to pay a funding fee, which can make your mortgage more expensive. This fee can be paid upfront or rolled into your loan and paid off over time.
  • Limited to Primary Residences: VA loans can only be used to purchase a primary home, so you can't use one for a vacation or investment property. However, you can buy a home with a VA loan and rent out part of it to generate rental income.

Applying for a VA loan

Before you apply for a VA loan, you'll need a Certificate of Eligibility, which you can get through a lender or through the VA's eBenefits portal.

Once you have that paperwork, you can apply online. Our list of the best VA lenders is a great place to start.

Bottom line

After serving your country, you deserve to have an easy time buying a home. A VA loan could be your ticket to an affordable mortgage and a place to call your own.

Still have questions?

Read more about VA loans:

FAQs

  • A VA loan is a mortgage that's guaranteed by the U.S. Department of Veterans Affairs.

  • VA loans allow eligible borrowers to purchase a home with no down payment, and they don't require those borrowers to pay for private mortgage insurance. They also have competitive interest rates and more lenient borrowing requirements.

  • A VA loan entitlement is the amount the Department of Veteran Affairs will guarantee on your loan in the event you default on it.