VA Home Loan vs. Conventional Loans – What's the Difference?
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For a lot of us, owning a home is a huge decision, and sometimes it is the biggest investment we make. However, before you start looking for homes, it helps to understand how a mortgage works and whether you qualify for one or not. There are two very common types of mortgage loans available in the industry today: VA home loans and conventional loans.
A VA home loan will offer 100 percent financing if you are a qualified veteran, active duty service member, or surviving spouse. Those eligible for a VA loan might assume that it is the best option and better than a conventional loan. But it might not be true. It helps to compare your options and choose a loan that fits your needs. This guide explains both loan options in detail to help you make the right choice.
In this article
What is a VA loan?
A VA loan is a loan available only to members of the military and veterans. The loan can buy, build, or refinance a house. This loan is backed by the U.S. Department of Veterans, which means that VA guarantees the loan for the mortgage lender if the borrowers stop making the monthly payments. A VA mortgage has several benefits, but one that sets it apart from other loans is no down payment or mortgage insurance. The loans also have lower interest rates as compared to other mortgage alternatives.
However, you will be required to pay a funding fee which is a one-time fee that can range from 0.5 percent of the loan to 3.6 percent. There is one mandatory requirement of the loan- your home attached to the VA loan should be a primary residence, not an investment property or a second home. You can apply for a loan from VA-approved mortgage lenders or credit unions.
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Eligibility requirements
It is not easy to qualify for a VA loan, so many borrowers have to look for other options. To be eligible, you should meet one of the following requirements:
- Are a veteran who has served 90 days in wartime
- Are on active duty and have already served 90 continuous days.
- Are a veteran who has served 181 days in peacetime.
- Are you a surviving spouse or a service member who is missing in action, died while in service, is a prisoner of war, or from a service-connected disability, and you have not remarried.
- You have served six years in the National Guard or Selected Reserve.
- You must request a certificate of eligibility before applying for the loan.
Pros and cons of VA loans
Pros
- The U.S. Department of Veterans Affairs backs the loans.
- There is no private mortgage insurance.
- The loan is easier to refinance as compared to conventional loans.
- Comparatively cheaper.
Cons
- VA loans have a mandatory, one-time fee.
- The loans are slower to close.
- They have a slow home appraisal process.
- Can only be used for the primary residence.
What are conventional loans?
A conventional loan is another popular mortgage, but the government does not back it. This loan is available through different lenders, including online lenders and banks. The loan has certain qualification requirements; if you qualify, you will get a loan with a low down payment of as low as 3 percent. But, if you put down less than 20 percent, you must also pay for private mortgage insurance. You will pay your premiums with the monthly mortgage payment. The loan also has a minimum credit score requirement if you want to enjoy the best terms and mortgage rates. It usually comes with a fixed rate of interest.
You can use the funds to purchase an investment property or a second residence. The borrowing amount will depend on the income guidelines specified by Freddie Mac and Fannie Mae and the loan limits established by the Federal Housing Finance Administration (FHFA).
When it comes to conventional loans, you have two options to choose from. One is a conforming loan that meets the standards established by FHFA, and it will include the credit, debt, and loan size. It has a limit of $647,200 in most areas and can go as high as $970,800 in more expensive areas. The second option is a non-conforming loan which does not follow FHFA standards and works with first-time homebuyers looking for more expensive homes. Jumbo loans are also non-conforming loans.
Pros and cons of conventional loans
Pros
- Freddie Mac and Fannie Mae will back a conventional mortgage loan.
- The loans are faster to close.
- There is no requirement for the property to be your primary residence. It can be an investment property or a second home.
Cons
- There is a strict credit score criteria
- The loan requires private mortgage insurance.
- Conventional loans have a maximum loan amount limit.
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Key Differences
There are many differences between VA home loans and conventional loans. It helps to understand them before you make a decision.
Government guarantee
This is a vast difference between a VA loan and a conventional loan. A VA loan is backed by the U.S. Department of Veterans Affairs while a conventional loan is backed by Freddie Mac or Fannie Mae.
Eligibility
Anyone can apply for a conventional loan, but if you want to be eligible for a VA loan, you should be in the military service, National Guard service or reserve service, or a surviving spouse of a veteran who passed away from a service-related illness or in combat.
Down payment
You can enjoy 100% financing in a VA loan, while a conventional loan will require a minimum down payment.
Property type
You can only use the VA loan to buy a primary residence, but a conventional loan can buy primary residences, investment properties, or second homes.
Mortgage Insurance
A conventional loan will require you to buy private mortgage insurance when you put less than 20% down, whereas a VA loan has no such requirement. However, a one-time VA funding fee will be applicable to the loan.
Credit score
A VA loan has no minimum score for the loan, and all lenders can set their minimum, which is usually between 580 to 620. However, if you want to apply for a conventional loan, there is a requirement of 620 or more.
Debt-to-income ratio
There is no limit for a VA loan, but VA lenders usually scrutinize the borrower with high ratios. However, it helps to have a DTI below 43% if you want to apply for a conventional loan.
Loan limit
There are no loan limits for VA loans, but there is a maximum limit for conventional loans, which is $647,200 for a 1-unit home in most areas.
When is a VA loan better than a conventional loan?
One of the biggest benefits of a VA loan is that there is no down payment requirement, and you can avoid making the private insurance mortgage payment. That said, you can also avoid the funding fee if you are receiving VA compensation for a service-connected disability, are a surviving spouse of a veteran who has died in service, or is a Purple Heart recipient. You also do not have to worry about exceeding a maximum loan limit for the purchase price of your home.
As a veteran, you can buy a $300,000 home as a first-time buyer without wasting money. You can structure the loan with a seller credit to help pay the closing costs. So, when you do not have sufficient funds to put down but meet the eligibility requirement, a VA loan is a good choice here.
VA loans have easier credit requirements than conventional loans, but you will still have to show that the mortgage payment will be a reasonable percentage of your income. VA loans have lower interest rates; if the rates drop, you can refinance with the VA Interest Rate Reduction Loan. It will not require an appraisal at the time of closing. There might not be a credit check for the interest-rate reduction loan, but the lender will review your payment history.
If you qualify for a VA loan, there is a high chance that you will get a better deal than FHA loans. That said, if you have a credit score below 620, a VA loan will be an ideal choice.
When is a conventional loan a good choice?
A VA loan has many perks, but not everyone can qualify. This is when you might want to consider a conventional loan. If you can make a 20 percent down payment, you might want to go ahead with a conventional loan since it will exempt you from the PMI, and you will not have to pay a funding fee. If you want to buy a $300,000 home and have a 20 percent amount to put down, go ahead with a conventional loan. You will be able to buy the home with no mortgage insurance. A VA offer is not likely to be accepted over a conventional offer since there is a risk of issues with appraisal.
A VA loan will be out of the question if you are looking for a second home or do not plan to move in anytime soon. With a VA loan, you will have to move in within 60 days of your loan closing. It also helps to remember that VA loans have stricter requirements regarding the condition of your house.
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FAQs
Is there a closing cost for a VA loan?
Just like all the other types of home loans, all VA loan borrowers have to pay fees that are known as closing costs. This is a fee paid to the lender for processing their loans.
Is it easier or harder to sell a home with a VA loan?
There is no difference in the sale procedure of a home, whether you have a VA loan or a conventional loan. No matter the loan, you will have the same issues with a buyer.
How long should I reside in my VA home before renting it?
You must prove you intend to use the VA loan to buy a primary residence. Hence, you must occupy the home for at least a year. You can then rent out the home without any need for refinancing.
The bottom line
There’s no certain way to know which type of loan is right for you. If you qualify for both, you must start by comparing the loan terms. You will find the VA loan rates more attractive than those offered by conventional loans. Choose a loan that offers low rates and has favorable repayment terms. You might want to consider a VA loan if your credit score is not good.
Lastly, you should opt for a conventional loan if you have enough funds and can afford to put 20 percent down. When it comes to a VA loan, you should be eligible, and it should be your primary residence. If not, go for a conventional loan. Before you finalize a loan program, run the numbers and then make a decision.
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Editor
Vandita Jadeja is a financial writer and editor at Joywallet. She loves to read and write about money and brings a decade of experience from the financial industry.
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