How Does a VA Mortgage Work

By Ciaran John

The United States Department of Veterans Affairs does not write home loans but it does partner with lenders to offer low-cost loans to active and retired members of the armed services and some family members of deceased veterans. VA-backed loans have minimal out-of-pocket upfront costs, which means these loans offer an affordable way for veterans and active duty military personnel to buy or refinance residential property.

Typically, when you buy a home you must make a down payment so that you have some equity in the home. This equity gives your lender some room to manoeuvre in terms of pricing your house if you default on your loan and go into foreclosure. On a VA loan, you do not have to make a down payment but the VA protects your lender by guaranteeing the loan. This means that if you default on the mortgage, the VA covers a certain percentage of the lender's loss. The VA guaranty amounts to an insurance policy but technically the VA calls it a guaranty because only insurance companies can sell actual insurance protection.

While you do not have to make a down payment, you do have to pay a VA funding fee and the money from this funding fee goes into an account that the VA uses to make payouts to lenders to cover loan defaults. However, if you receive service-related disability payments you do not have to pay the funding fee.

VA loans also include the typical costs that you associate with other mortgages such as the appraisal fee, recording fee and pre-paid taxes and homeowners insurance. You can negotiate to have the seller pay your closing costs as long as those costs do not exceed more than 4 percent of the loan amount.

The amount you can borrow depends in part on your income and your debt level since you cannot buy a home with a payment beyond your means. Aside from your ability to afford the monthly payments, VA loans have no actual dollar limits. However, the VA does set county-by-county single family housing limits and it only guarantees loans for up to 25 percent of those county limits. Therefore your lender can lend you a mortgage for any amount but the VA loan guarantee cannot exceed the limit for your county.

You can use a VA loan to buy a new home, and purchase VA loans are not limited to first time home borrowers. The VA also guarantees both straight refinance loans and cash-out refinance loans. If you are buying a home, the seller must pay for the termite inspection whereas in most other kinds of loan programs the buyer has to cover this expense. You can only use VA-backed loans to buy or refinance a primary residence and you can sell your house and let someone else assume your mortgage payments as long as that person qualifies for a VA-backed loan.

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