Pros and Cons of VA Loans vs Conventional Loans

Deciding between a VA loan and a conventional loan is one of the most important financial decisions a homebuyer can make. With so many factors to consider, it can be overwhelming trying to determine which type of mortgage is the better fit. In this comprehensive guide, I’ll walk you through the key pros and cons of VA loans compared to conventional loans to help you make an informed decision.

VA Loan Overview

First, let’s quickly review what makes VA loans unique. VA loans are mortgage loans guaranteed by the Department of Veterans Affairs and are available exclusively to eligible veterans, active-duty service members, and surviving spouses. Some of the main benefits of VA loans include:

• No Down Payment Required: Unlike most conventional loans, VA loans allow buyers to finance 100% of the purchase price without a down payment. This makes it easier for eligible buyers to get into a home sooner.

• No Mortgage Insurance VA loans don’t require private mortgage insurance even with a low down payment. Instead a one-time VA funding fee is charged, which can be financed into the loan.

• More Flexible Credit Guidelines VA loans have more lenient credit score and debt-to-income requirements compared to conventional loans This helps buyers with weaker credit profiles qualify.

• No Prepayment Penalties: VA loans don’t charge prepayment penalties if you pay off your loan early. This provides flexibility if you later want to refinance or sell.

Now let’s dive into the key pros and cons of VA loans compared to conventional mortgages.

Pros of VA Loans

1. Easier to Qualify With Lower Credit Scores

One of the biggest advantages of VA loans is their more flexible credit guidelines. VA doesn’t set a minimum credit score requirement, but most lenders require a score around 580-620. The average FICO score for recent VA borrowers was 722.

On the other hand, conventional loans typically require credit scores of at least 620, with an average of 752 for recent borrowers. So those will weaker credit have better odds of qualifying for a VA loan.

2. Lower Down Payments

The zero down payment feature of VA loans makes them significantly more affordable than conventional loans. Conventional mortgages usually require at least 3-5% down, limiting options for buyers without much cash saved up.

The low down payment requirements for VA loans allow eligible buyers to purchase with less cash upfront. For many, this can mean buying months or years sooner than if a 20% down payment was needed for a conventional loan.

3. No Monthly Mortgage Insurance

One of the biggest expenses associated with low down payment conventional loans is monthly mortgage insurance (MI) premiums. Mortgage insurance is typically required on conventional loans when less than 20% is put down.

VA loans skip this cost altogether. Instead of MI, a one-time VA funding fee between 1.4-3.6% of the loan amount is charged. The fee can be financed into the loan instead of paid upfront. This helps reduce ongoing monthly housing costs.

4. More Flexible DTI Requirements

The debt-to-income ratio (DTI) measures total monthly debt obligations against gross monthly income. VA doesn’t impose a hard cap on DTI, but closely reviews loans over 41% DTI. The average DTI on recent VA loans was about 44%.

Meanwhile, conventional loans ideally want to see DTI under 36%. So VA provides more flexibility for buyers with higher debt levels relative to their income. This allows more buyers to qualify and affords the ability to take on slightly higher mortgage payments.

5. Can Be Assumable

Certain types of VA loans are assumable, meaning the loan can be transferred to another eligible buyer when the home is sold. This can make VA loans more desirable to sellers, as it presents buyers with an incentive to keep the existing VA financing in place rather than obtaining a new loan.

Conventional loans are typically not assumable. The buyer usually needs to apply and qualify for a new mortgage under current rates and terms.

Cons of VA Loans

1. Require VA Eligibility

The biggest downside of VA loans is that they are only available to Veterans, active duty service members, and some surviving spouses. Honorably discharged Veterans and active duty members usually qualify, but other applicants won’t be eligible.

Conventional loans have no restrictions – anyone who meets credit, income, and asset requirements can apply. So conventional loans offer more flexibility and open up home buying to a wider audience.

2. Limitations on Type of Property

VA loans can only be used to purchase a primary residence – second homes or investment properties aren’t eligible. Conventional loans can be used to finance primary residences, second homes, vacation properties, or investment real estate.

This restricts the use of VA financing only to properties intended as a main home. Those wanting more flexibility to purchase other property types must utilize conventional financing.

3. VA Funding Fee

As mentioned earlier, VA loans charge a one-time VA funding fee rather than monthly MI premiums. For loans above $144,000, this fee can be over 3% of the total loan amount.

On a $300,000 loan, a 3% funding fee equates to $9,000 added to the loan principal. While no ongoing MI payments are due, the upfront fee is still a significant cost – especially compared to 20% down conventional loans which skip MI altogether.

4. Loan Limits

For 2022, VA loans are capped at $647,200 for single-family homes with no down payment, and $970,800 with a 25% down payment. Loan limits vary by county, so maximum financing may be lower in your area.

Conventional conforming loans in 2022 can go up to $647,200 regardless of down payment. Jumbo conventional loans above the conforming limit are available too, though usually with higher rates and stricter requirements. VA financing above $647,200 requires a down payment.

5. Funding Fee Difficult to Waive

Certain applicants like Veterans receiving VA disability benefits can waive the VA funding fee. However, the requirements to receive a waiver are stringent.

Most borrowers won’t qualify for a waiver, so the VA funding fee is an unavoidable cost. With a conventional loan, mortgage insurance can potentially be canceled or avoided by making a 20% down payment.

Conventional Loan Overview

Now that we’ve compared the pros and cons of VA loans, let’s provide a quick refresher on conventional mortgages. Conventional loans are any mortgages NOT backed by a government agency like VA or FHA. Some key traits include:

• Offered by private banks and lenders
• 20% down avoids mortgage insurance
• Minimum 620 FICO score
• Can be used for primary home, second home, or investment property
• No occupational restrictions – anyone can qualify
• Conforming loans limited to $647,200 for 2022

The choice between VA and conventional loans ultimately depends on your financial situation, credit profile, property goals, and VA eligibility. Weigh the pros and cons carefully for your situation to decide which type of mortgage is the better option.

Key Factors to Consider

As you compare VA and conventional loans, here are some important factors to keep in mind:

Credit Scores and Debt Levels – If your credit score is below 620 or your debt-to-income ratio is elevated, the more flexible VA guidelines improve your chances of approval. Conventional loans have stricter requirements.

Down Payment Available – The zero down payment option of VA loans provides a clear advantage if you lack funds for a conventional down payment. Even 5-10% down on a conventional loan triggers mortgage insurance.

Type of Property – Conventional loans work better if you’re purchasing a second home or investment property. VA loans can only finance primary residences.

Occupational Status – VA loans are limited to eligible Veterans, active duty service members, and surviving spouses. Conventional loans have no occupational restrictions.

Loan Amounts – VA conforming limits for 2022 are $647,200, requiring a down payment above this amount. Conventional conforming loans in 2022 go up to $647,200 regardless of down payment.

Length of Ownership – An assumable VA loan could be more marketable when selling if buyers can take over the existing low-rate financing. Conventional loans are rarely assumable.

Alternatives to Consider

Beyond VA and conventional loans, a couple other options may be worth considering for certain homebuyers:

FHA Loans – FHA loans are a government-backed option like VA loans, but are open to all buyers regardless of military status. They offer low down payments and flexible credit like VA loans. The trade-off is higher monthly mortgage insurance.

USDA Loans – For low to moderate income buyers in rural areas, USDA loans are worth considering. They provide 100% financing and have income limits by area. Options are restricted to eligible rural properties.

State/Local Down Payment Grants – Down payment grant programs through state or local housing administrations can help buyers cover the down payment on a conventional loan. When paired with 5