Disclaimer: Beginning January 1, 2020, the VA funding fee will be changing to a range of 1.4% – 3.6% based on factors like your down payment or equity amount, your service status and whether this is a first or subsequent use of a VA loan.
The Department of Veterans Affairs recently implemented a new rule regarding refinancing your mortgage with a VA loan. While we’ll get into the details below, the basic idea behind the new regulations is that lenders must show the loan meets any one of several defined criteria in order to make sure that America’s heroes and their eligible surviving spouses are seeing a benefit from the refinance.
If you’re looking to refinance a VA loan, this post will go over the new regulation and what it means for you. Before we get to that, let’s go over when this new rule applies and when it doesn’t.
When Do New VA Refinance Rules Apply?
If you happen to have read any news coverage on this, you may have seen that the VA now classifies its loans in one of four different ways. There are a couple of loan types where this new regulation doesn’t apply.
The first is on a purchase transaction. If you’re buying a house, that is the benefit of the home loan for you. Net tangible benefit rules only apply to refinance transactions.
The other area where the new rules are void is VA Streamlines. VA Streamlines involve refinancing an existing VA loan in order to lower your interest rate and/or change your mortgage term.
There are two loan types in which the net tangible benefit rules apply. The VA calls them Type I and Type II cash-out refinances. The only place with more confusing lingo than the mortgage industry might be the federal government, and the language of this rule is no exception.
A Type I cash-out refinance is defined as having a loan amount that doesn’t exceed the balance of the existing loan it’s replacing, including the VA funding fee. In other words, it’s not a cash-out transaction at all, but one to lower your rate or change your term. Oh, those wacky government types.
While VA to VA refinances are accounted for under VA Streamline rules, going from any other loan to a VA loan for a rate-term transaction (e.g. conventional to VA) is considered a Type I cash-out refi, and the new rules regarding a net tangible benefit to the client apply.
The rules also apply to a Type II transaction. These loans are cash-out refinances in the traditional sense. You’re leveraging your home’s value in order to convert it into cash to be used to accomplish a goal.
What Are the New VA Refinance Rules?
The new VA regulations involve showing a net tangible benefit for the client and some additional documentation lenders have to provide. To get started, let’s define what’s considered a benefit.
What’s a Net Tangible Benefit?
If your new VA loan involves a Type I or II cash-out refinance, the loan has to pass a net tangible benefit test. It can do so by satisfying any of the following eight conditions.
- Following the cash-out transaction, there must be more than 10% equity left in the home. If the loan doesn’t meet this test, we move on to one of the remaining seven conditions to show the benefit.
- It’s considered beneficial if the new term is shorter than the existing term because you pay less interest over time.
- The loan is allowed if it eliminates mortgage insurance. In addition to the mortgage insurance payments associated with conventional and FHA loans, this provision is also satisfied if USDA guarantee fees are eliminated.
- Loans that result in a lower monthly principal and interest payment for clients are allowed.
- You can refinance to get a lower interest rate on its own.
- The refinance is considered beneficial if your disposable income is increased. You may also see this referred to as residual income. This is accomplished by doing debt consolidation to reduce the amount being put toward paying off debt on a monthly basis.
- Going from a construction loan to permanent financing passes the test.
- Finally, you can refinance to go from an adjustable rate mortgage (ARM) to a fixed-rate loan.
Your funding fee can still be financed into the mortgage if you choose to do it that way. However, the VA is now requiring that it be included in your equity calculation. This could affect your new refinance in a couple of ways.
First, you can never take out more than 100% of your actual home value, so for transactions with very high cash-out amounts or low existing equity, you may not be able to finance your funding fee.
Additionally, if the net tangible benefit is having more than 10% equity remaining in the home after the refinance, you may have to pay the funding fee upfront in order to complete the transaction if you’re going to be close to the limit.
New Disclosure Documentation
Any client who closes a new mortgage loan currently receives a loan estimate three days after the completed application and a closing disclosure three business days before they close. Under these new VA refinancing rules, lenders are now required to give you an additional document which explains the particulars of the new VA loan when you apply and again before you close.
This loan benefit disclosure shows the payoff amount for your old loan and the amount of your new loan. There’s also a comparison of the rate type as well as the interest rate and the length of the loan term. It shows the money on making payments over the term of the mortgage as well as a comparison of your new and old loan-to-value ratios (LTV). The LTV is a ratio your lender uses for loan qualification which is the inverse of your equity. For example, if you have 10% equity in your home, you have 90% LTV.
In addition to the comparison table, this document will list the tangible benefit as a result of the refinance. If you’re taking cash out, it will also show the amount of equity being liquidated. You’ll acknowledge this as you would all your other mortgage documents.
The new VA rules should bring additional clarity if you’re looking to refinance your mortgage. If you’re ready to get started with a VA refinance of your own, you can do so online with Rocket Mortgage® by Quicken Loans®. You can also give one of our Home Loan Experts a ring at (800) 785-4788. If you have any questions, you can let us know in the comments below.
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