The VA loan represents one of the greatest financial benefits available to veterans. Most veterans purchase their first homes with one of these mortgages. However, certain situations exist where a conventional loan makes more sense for veteran borrowers. As such, we’ll use this article to explain how to refinance a VA loan to conventional.
If you currently have a VA mortgage, you may be wondering if you should refinance to a conventional loan. There are a few reasons why you might want to make the switch. However, there are also some drawbacks to consider. In this article, we’ll walk through the pros and cons so you can decide if refinancing your VA loan to a conventional mortgage is the right move for you.
What is a VA Loan?
First, let’s quickly recap what a VA loan is. VA loans are backed by the Department of Veterans Affairs and are available to eligible military members, veterans, and surviving spouses.
Some key features of VA loans:
- Require no down payment
- Have no monthly mortgage insurance
- Can be assumed by qualified buyers if you sell the home
- Have lower interest rates than conventional loans
VA loans offer great benefits for eligible borrowers. However, they aren’t necessarily the best option forever
Why Refinance a VA Loan to a Conventional Loan?
Here are some of the top reasons you may want to refinance your VA mortgage to a conventional loan
1. Remove VA Loan Limits
VA loans have loan limits set by county, similar to FHA loans. The baseline limit is $647,200 but it goes higher in pricier housing markets. If you’ve paid down your loan balance or your home has appreciated in value, you may now qualify for a larger loan than you could get with a VA mortgage.
Refinancing to a conventional loan removes those VA loan limits so you can tap more of your equity if needed.
2. Avoid the VA Funding Fee
All VA loans charge an upfront VA funding fee. It’s 2.3% of the total loan amount on first-use loans. On subsequent use loans, it jumps up to 3.6%.
This fee doesn’t apply to conventional mortgages. By refinancing, you can avoid paying it again on a future VA refinance.
3. Remove VA Loan Requirements
VA loans come with requirements like:
- The home must be your primary residence
- The home must pass a VA appraisal
These don’t apply to conventional loans. If you want to rent out your property or think it may not pass the VA appraisal, refinancing to a conventional loan removes those headaches.
4. Access Better Rates with a Higher Credit Score
VA loans work best for borrowers with fair or average credit. If your score has improved significantly since you got your VA loan, you may now qualify for better interest rates with a conventional mortgage.
Published rates are usually lower on conventional loans for borrowers with scores of 740 or higher. Refinancing can help those with excellent credit get a better deal.
5. Shorten Your Loan Term
You may have opted for a 30-year VA mortgage originally. But now you want to pay off your home faster.
Conventional loans often offer better rates on 15-year mortgages than VA loans do. Refinancing to a 15-year conventional loan can allow you to lock in a lower rate while paying off your home quicker.
6. Switch to a Fixed-Rate Loan
Some VA borrowers opt for a hybrid ARM (adjustable-rate mortgage) to get a lower starting rate. But you risk rates going up at some point in the future.
Refinancing that ARM to a fixed-rate conventional mortgage lets you lock in a low rate for the entire loan term for stability.
7. End Private Mortgage Insurance Sooner
If your original VA loan had a down payment under 20%, you have private mortgage insurance just like with a conventional loan.
When you refinance, however, your home’s value may have gone up enough that you now have 20% equity or more. Refinancing to a new conventional loan could allow you to cancel PMI right away and stop paying those monthly premiums.
What are the Downsides of Refinancing a VA Loan?
Refinancing from a VA to a conventional loan isn’t always smart. Here are some cons to consider:
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Closing costs: You’ll pay closing costs like appraisal fees, recording fees, and more when you refinance. They may eat into any monthly savings from getting a new rate.
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Loss of VA benefits: You lose special VA mortgage perks like the ability to refinance with an IRRRL and protection from foreclosure.
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No future VA loan: Once you refinance to a conventional loan, you can’t ever get a VA mortgage again except through a VA cash-out refinance.
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Tightening credit standards: If your credit score or debt-to-income ratio has worsened since you got your VA loan, you may not qualify for as good of a conventional mortgage now.
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Prepayment penalties: Some lenders charge penalties for paying off a VA loan early. Make sure to avoid those if you plan to refinance soon.
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Higher rates possible: There’s no guarantee refinancing will get you a lower rate, especially if your credit score has dropped. Get quotes before committing to a refi.
As you can see, there are solid cases both for and against refinancing a VA loan to a conventional mortgage. You really need to evaluate your own personal situation to see if it’s a smart move.
When Does Refinancing From VA to Conventional Make Sense?
In general, refinancing a VA loan to a conventional mortgage makes the most sense when:
- You have excellent credit and income and qualify for today’s best rates
- You can recoup closing costs in 2-3 years from interest savings
- You need to remove VA loan limits, requirements, or the funding fee
- You have significant equity and want to tap more of it
Doing a VA to conventional refinance can benefit certain borrowers who have outgrown the VA loan “starter” benefits. But it’s not a good move for all.
How Do You Refinance From VA to Conventional Loan?
If you decide refinancing your VA mortgage to a conventional loan is right for you, follow these steps:
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Check your home equity: Make sure you have at least 20% equity if you want to avoid PMI.
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Get your credit reports: Check for errors that could impact your scores and rates. Dispute any you find.
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Compare mortgage rates: Get rate quotes from multiple conventional lenders to find the best deals.
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Pick a lender and apply: Submit your application with all required documents. Get pre-approved.
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Lock your rate: Once your loan is approved, lock in your interest rate to protect against rises.
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Complete the process: Finish up underwriting, appraisal, and title work. Review closing documents thoroughly.
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Close on time: Sign your conventional loan closing docs and pay any closing costs. Submit your first new mortgage payment.
To make sure the refinance goes smoothly, work with an experienced loan officer. And don’t hesitate to ask all your mortgage questions along the way.
Alternatives to Refinancing Your VA Home Loan
Refinancing to a conventional loan isn’t your only option for altering your VA mortgage terms. Two alternatives worth considering are:
VA Streamline Refinance: An IRRRL through the VA allows you to refinance easily to lower your rate without an appraisal or credit check. Closing costs can often be wrapped into the new loan amount too.
VA Cash-Out Refinance: This option lets you tap your home equity while staying in the VA loan program. You can take cash out up to 100% of your home’s appraised value in most cases.
Run the numbers on these choices too before deciding if leaving the VA loan umbrella is truly best.
Is Refinancing From a VA to Conventional Loan Right for You?
At the end of the day, whether refinancing your VA mortgage to a conventional loan makes sense comes down to your personal situation.
Carefully compare mortgage rates, run the numbers, and evaluate the pros and cons before making a decision. Refinancing can be a great move – but also a costly mistake. So do your due diligence to determine if switching to a conventional mortgage helps or harms you.
Hopefully this overview gives you the information you need to decide if saying goodbye to your VA loan is the wisest path or not. Analyze the options thoroughly and proceed with caution. With smart planning, you can determine whether this type of refinance is a savvy financial step forward for your situation.
How to Refinance Your VA Loan to Conventional
After reviewing the above, if refinancing from your current VA loan to a conventional loan makes sense, here are the steps to do it:
- Step 0 – confirm your equity (optional, but recommended): While you don’t need to have 20 percent equity in your home to refinance into a conventional loan, you’ll have to pay PMI if you do not. You’ll need to factor these additional payments into your monthly budget. To save money in this step, you can use a home value estimator like Zillow for a rough value. But, you’ll still need to pay for a formal appraisal during the refinance loan closing process.
- Step 1 – confirm your credit score: To qualify for the best loan terms, you’ll want a credit score over 740. However, some lenders will allow you to refinance into a conventional loan with a 620 or higher. If you have a lower score than this, chances are you won’t qualify for any conventional refinance programs.
- Step 2 – confirm your debt-to-income ratio (DTI): Lenders use debt-to-income ratio as a measure of a borrower’s ability to repay debt. To calculate it, add up all your monthly debt payments (e.g. car loans, credit card payments, student debt, and your future mortgage payment) and divide them by your gross monthly income. Most lenders will want to see a DTI below 40 percent, though some will allow as high as 50 percent.
- Step 3 – compare options: Once you’ve confirmed your financial health in the above steps, you’ll want to actually compare conventional refinance quotes from different lenders. These comparisons will help you decide which conventional refinance makes the most sense for your situation. At a minimum, you should compare: 1) APR (the effective interest you’ll pay on a loan, including fees); 2) closing costs; and 3) loan terms (e.g. 15-, 20-, 25-, vs. 30-year loans).
- Step 4 – apply and close on the loan: After selecting the best conventional refinance option, you’ll need to apply for the refinance loan. This will include submitting all of your financial information, completing a formal home value appraisal, and submitting any additional information the lender requires. The closing process will be essentially the same as a home purchase closing, except there won’t be a seller involved. You will sign the closing documents with either a settlement agent or a real estate attorney.
- Step 5 – apply for the VA one-time restoration of entitlement (optional): If you refinanced your VA loan to a conventional one in order to use the VA loan a second time, you’ll need to file paperwork with the VA. Specifically, you’ll need to request the one-time restoration of entitlement by filling out a Request for a Certificate of Eligibility, VA Form 26-1880 and sending it to the VA regional loan center for your state.
The VA loan provides many veterans an outstanding option for buying their first homes. But, situations exist where a conventional loan makes more sense. And, depending on your situation, refinancing from a VA loan to a conventional one may be a great option. By following the steps outlined above, you’ll be able to do just that.
Maurice “Chipp” Naylon spent nine years as an infantry officer in the Marine Corps. He is currently a licensed CPA specializing in real estate development and accounting.
Reasons to Refinance from VA Loan to Conventional
If conventional mortgages require A) down payments, B) higher credit scores, and C) PMI, why would a veteran want to refinance from a VA loan to conventional one? Several reasons exist:
- Rental property conversion: If your primary home is financed with a VA loan, you generally cannot use another VA loan to buy a second property (though exceptions exist). However, many veterans decide to move from one home, turn it into a rental property, and use the VA loan to purchase a new, primary residence. If you refinance the first property’s VA loan into a conventional one, you have the ability to use your VA loan eligibility to purchase your new home. Endstate: your old home becomes a conventionally-financed rental property, and you purchase your new home with the VA loan.
- Better terms: VA loans typically offer extremely competitive interest rates. But, if you have a credit score high enough to qualify for a conventional loan, you may be able to refinance into better terms than a VA loan could provide.
- Do not qualify for IRRRL: The VA’s Interest Rate Reduction Refinance Loan (IRRRL) provides veterans with VA loans a streamlined way to refinance into a lower interest rate. But, some veterans with multiple mortgages may not qualify for this program. For these individuals, refinancing into a conventional loan may be the only option to take advantage of lower interest rates.
NOTE: Conventional loans require borrowers to pay PMI if they have less than 20 percent equity in their homes, which can add over $1,000 in payments every year. For example, if an appraiser values your home at $200,000, 20 percent equity would be $40,000 ($200,000 value times 20 percent). This means that, if your outstanding VA loan on this property was less than $160,000 ($200,000 minus $40,000), you would have greater than 20 percent equity – and wouldn’t need to pay PMI on a conventional refinance. Takeaway: for veterans considering refinancing, if you’d like to avoid paying PMI on a conventional loan, make sure you have at least 20 percent equity in your homes.
When should you refinance a VA loan to a Conventional loan?
FAQ
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