Thinking of buying a new home? Unsure of the difference between a VA Home Loan vs. a conventional loan? Both have their own advantages and disadvantages, and knowing what those are will help you choose the best option. Let’s compare and contrast the two loan types to give you a bit more insight into the features and benefits of a VA Home Loan vs. a conventional loan.
How Is a VA Home Loan Different from a Conventional Loan?
The most obvious difference between a VA Home Loan and a conventional loan is that a VA Home Loan is backed by the U.S. Department of Veterans Affairs (VA). Another thing that sets VA Home Loans apart from other types is the goal it was established to accomplish, which is to make homeownership more accessible for eligible Veterans or their surviving spouses by providing them advantageous loan terms.
Benefits of a VA Home Loan
The VA program makes it easier for Veterans to get into a home of their own in areas where private financing is not generally available. By offering long-term financing with no down payment, eligible Veterans are able to become homeowners sooner. This can make the transition into civilian life much easier, especially for those who aren’t used to staying in one place for too long.
Because the loan is backed by a department of the Federal Government, lenders tend to see this as a more secure loan. In fact, it makes Veterans using the VA Home Loan attractive candidates. The program also strives to reduce foreclosures among Veteran homeowners, so they do not lose their investments during economic downturns or other factors that cause housing prices to fall.
Part of what makes VA Home Loans such an attractive option is that they’re easier to qualify for than conventional loans. There are fewer restrictions, including a lenient debt-to-income (DTI) ratio.
In addition, VA Home Loans are assumable. If you sell your home in the future and your buyer wants to assume your mortgage, they can do so if they meet specific qualifications (e.g., income, credit score). If you are thinking about buying a home with an assumable VA Home Loan, make sure you understand what it means for you if your new buyer decides not to keep it.
VA Home Loan vs. Conventional Requirements
Conventional Loan Requirements
You must meet all of the following criteria to qualify for a conventional loan.
- A minimum credit score of 620.
- Debt-to-income (DTI) ratio of no more than 43%.
- A minimum down payment of 3%.
- If you put down less than 20%, most lenders will require you to have private mortgage insurance (PMI).
- A home appraisal that shows the home is valued at or above the purchase price.
VA Home Loan Requirements
One of the benefits of a VA Home Loan vs. a conventional loan is that there is no minimum credit score, no minimum down payment, and no PMI required by the VA. However, most lenders prefer, if not require, a minimum credit score of 580.
To qualify for a VA Home Loan, you must meet one of the following criteria:
- You’ve served 90 consecutive days of active service during wartime.
- You’ve served 181 days of active service during peacetime.
- You have 6 years of service in the National Guard or Reserves.
- You are the surviving spouse of a servicemember who has died in the line of duty or as a result of a service-related disability.
Another requirement to note: The VA Home Loan can only be used to purchase a primary residence, while a conventional mortgage can be used to purchase a primary or a secondary residence. So if you’re in the market to purchase a vacation home, you’ll have to go with a conventional loan.
VA Home Loan vs. Conventional Upfront Costs
A VA Home Loan offers 100% financing, meaning no down payment is required if you stay within your entitlement amount. In contrast, conventional loans require a down payment of at least 3%. The rest of the purchase price is paid at closing when ownership of the house is transferred to you.
The VA Funding Fee
The VA funding fee is a one-time payment that can be paid upfront at closing or rolled into the loan. Because a down payment is not required, this fee helps the VA cover losses and keep the loan guaranty program running for future generations of military homebuyers.
The VA funding fee varies from 1.4%% to 2.30% for first-time borrowers and 1.40% to 3.60% for those who have previously used a VA Home Loan. The funding fee amount is based on the type of loan, total loan amount, and (sometimes) your down payment amount.
You may be exempt from the VA funding fee if one of the following statements applies to you:
- You are a Veteran receiving VA service-related disability benefits.
- You are a Veteran who has at least a 10% disability rating from the VA.
- You are a Purple Heart recipient.
- You are a surviving spouse of a servicemember who died in the line of duty.
The VA Home Loan allows sellers to pay some closing costs for lower prices on homes. However, this is not always the case. Not all sellers offer this benefit. Whether you use a VA Home Loan or a conventional one, the amount you'll pay in closing costs varies based on the home and the details of your loan. Generally speaking, you should expect to find closing costs to be 3-5% of the total value of the loan.
VA Home Loan vs. Conventional Long-Term Costs
It’s important to know how much you’re able to borrow so you have an idea of what your monthly payments will be. A VA Home Loan no longer has a limit for loans over $144,000 and borrowers with a full entitlement. Instead it is left up to your creditworthiness and what a lender is willing to lend you. Whatever that amount is can potentially be covered by VA guarantee. A conventional loan can be either conforming or non-conforming. A conforming loan’s limit varies by county, ranging from $647,200 in most of the U.S. to $970,800 in the highest-cost regions. Non-confirming loans have no limits on the amount you can borrow.
Interest Rate Comparison
VA Home Loans typically offer low-interest rates with no upfront cost, while conventional mortgages typically have higher interest rates and an upfront mortgage insurance premium.
Mortgage Insurance Requirements
While not required for the VA Home Loan, most lenders require the borrower to pay PMI on conventional loans with a down payment that’s under 20% of the purchase price. PMI is an insurance policy that protects the lender if the borrower defaults on the loan.
How Much Does PMI Cost?
PMI is typically required on conventional loans with a loan-to-value (LTV) ratio greater than 80%. For example, a borrower with a $250,000 home loan at a 4% interest rate, 3% down payment and 680 credit score, might have to pay approximately $250 per month in PMI premiums if they put down less than 20% when purchasing their home.
If you go with a conventional loan, you may be able to avoid paying PMI by taking out a second mortgage on the home you’re buying in order to boost your down payment. Sometimes referred to as a ‘piggyback’ loan or an ‘80-20’ because 80% of your financing is in your first mortgage and 20% will be the second. Now that your LTV is at 80%, you won’t have to pay PMI.
Similarly, you can also opt for an ‘80-15-5’ or ‘80-10-10’ scenario where you can put down 5 or 10 percent respectively and benefit from a potential lower payment and no PMI.
Which Loan Type Is Right for You?
At first glance, the benefits of a VA Home Loan vs. a conventional loan may make your decision seem obvious. However, it’s still important to consider all factors when choosing which mortgage is best for you.
How Much You Plan to Pay Down
Why is this a factor? Because you’ll have to pay the VA funding fee regardless of how much you put down. Whereas with a traditional mortgage, you only have to pay PMI if your down payment is less than 20%. In most cases, the VA funding fee is added to the total loan amount, meaning you’ll be paying slightly more in the long run than you would a conventional loan.
It’s important to note that while paying zero down is appealing for obvious reasons, it also means you’ll own a property that’s 100% financed. If you add the VA funding fee to your loan amount, you’ll actually have negative equity in your home. As long as the value of your home increases, this is just a temporary downside until you begin payments toward the balance. However, if the market is flat or declining, or you don’t maintain the home properly and it loses value, it can become a cause for concern.
Your Chosen Lender
Not all lenders offer VA Home Loans, which limits the pool of lenders you can choose from. Additionally, not all lenders who offer VA Home Loans have specialists with extensive experience in handling them. For your best outcome, it’s critically important that you choose a lender that works primarily or exclusively with VA Home Loans. Otherwise, you may experience avoidable delays and confusion during the process.