Putting together a loan proposal for dozens of veterans every week can expose a loan officer to a wide array of borrowers with varying circumstances. Whether you’re a young couple hoping to upgrade in a few years, or you’ve finally retired and found the home of your dreams, I make it a point to know my borrowers before we start discussing specific loan features.
In the process of getting to know my clients’ situation, I try to understand their priorities and how those same priorities would influence my decision if I were in their shoes. The following is a list of the top ten factors (in descending order) I take into consideration when choosing the right VA refinance loan.
Borrowers face choices between fixed and variable rates, 30- and 15-year loans, lower rates, and lower closing costs. Hopefully these factors I present in detail will help you in finding the right loan for you.
#1: Breakeven Point
If I could boil my decision making process on a VA refinance down to one factor, the breakeven point would be all that remains. Borrowers get hung up on tons of different variables, whether it be the closing costs, the rate, the term, or the type of loan they’re getting.
If your hang-up is in the expenses, consider this simple equation: How much time is required before my monthly savings surpass my net expenses in this transaction?
Simple economics should rule this decision, but they don’t. So much of it has to do with priorities, perception, and emotions like the fear of making a bad decision. For me, the number one question that helps me determine the loan type (not just the rate) best suited for a borrower is, “How long do you see yourselves staying in this home?”
If you plan on staying in your home until it’s paid off, a breakeven point of 7 years should not deter you from moving forward, regardless of the expense. If you see yourself moving in 5 or so years, you may want to reconsider the expense if it doesn’t break even before that. Sometimes your current needs for monthly savings can trump this factor, but it is a factor worth considering nonetheless. Many clients have found the hybrid loans to be a great alternative when they’re uncertain of future plans for the home. The lower expenses and increased savings give it a superior breakeven period compared to their fixed counterparts.
Almost all VA refinances are identical in their relative closing costs, but as a borrower it’s up to you to choose between a lower rate or lower costs. You can always choose one, but unfortunately it’s almost always at the expense of the other. Lower rates generate higher expenses, and lower expenses require higher rates. Some borrowers I’ve worked with saw themselves staying in the home less than 10 years, but didn’t want a variable rate. After looking at the various fixed rates and their corresponding costs, we calculated the breakeven point at each rate and found the one they were most comfortable with. Bear in mind, discount points paid to reduce your rate are tax deductible over the life of the loan.
In any case, if you have to take one thing away from this post it’s this: A refinance will usually make sense if you recoup your costs soon enough to enjoy a net savings before you’ve made your last payment. Your monthly savings can determine exactly how soon you recoup those costs. Go into your refinance with a strategy on how to best apply the savings generated so you can maximize its potential.
#2: Broker & Lender Choice
If price were the number one factor driving economic decisions, retailers like Target and brands like Toyota would cease to exist.
Your broker and his selection of lenders are the connection between you and your VA loan, and the quality of that connection can determine a lot of your loan’s outcome.
Low VA Rates (a broker) specializes in doing only government loans, with more than 90% of the loans being VA IRRRL loans. This familiarity with VA guidelines proves to be extremely useful when it comes to getting a loan closed on time, with a great rate and price. The sheer volume of these refinances has given Low VA Rates a great relationship with wholesale lenders, allowing them to pass the savings of bulk, and preferential pricing on to veteran borrowers.
One benefit in dealing with a broker like Low VA Rates is the many lender options available to you, rather than having to deal with one lender’s rules and pricing. Lenders are much like insurers in that certain variables factor into the rate being offered. Depending on where you live, your loan size, your credit score, and whether it’s a townhome, a mobile home, or single family residence—all of these can affect the pricing. When your broker can see how 10 different lenders price a loan based on your circumstances, you increase your chances of obtaining a lower rate.
Your lender (the bank your broker decides to take your loan through) can also impact the decision. Although you’re dealing with a commodity when it comes to mortgage loans, some lenders are simply better than others when it comes to ease of closing a loan and the time it takes for the loan to get from application to closing. Any broker worth his salt will be able to tell you the pros and cons of the lender with whom he chooses to lock your loan.
No matter who you deal with, it is important to find a broker who understands your needs before suggesting a specific type of loan. Many brokers do not place the client’s interests above his or her own, which only further supports the case for better borrower education. Many clients have stated that a broker who is upfront with all of the costs, quick in responding to questions, and competent in delivering on their promises are among their top attributes they seek in a loan officer.
#3: Current Debt Situation
Many borrowers have felt the effects of our economy and are finding themselves overburdened with debt in increasing numbers. For those on high-rate loans, it’s always a no-brainer to refinance to a lower rate, especially if you are seeing hundreds in savings or a drop in excess of 1%. Even if you’re not in the market for, or qualified for the cash-out loan, the VA IRRRL loan still potentially provides up to two months of deferred payments and a possible escrow refund, which can provide thousands in short-term relief.
Many borrowers look beyond the benefits of a lower payment and realize the benefits of a reduced term. If they’ve got 27 years left on a high-rate mortgage, but could pay the home off in 18 years on the same payment they’re making now (but at a lower rate), this gets them all excited about living out their Golden Years debt-free, which is a great idea if you’ve got no other debt.
Strangely enough, I’ve talked quite a few borrowers out of this strategy after digging a little deeper into their situation. If you’ve got a lot of debt, take into consideration how much you spend in minimum payments to simply carry the debt. For one borrower with over $30,000 in credit card debt (most of it around 18% interest), it didn’t take long to convince him where to best apply the $200 a month potential savings his refinance would create. For some of my borrowers, the increased debt reduction possibilities offered by the hybrid rates made it easily the best decision for their needs in stabilizing their finances and, in some cases, keeping their home.
I’m an advocate for building equity, but when one has to choose between paying extra on a debt charging 18% and another debt charging only 5% that’s tax deductible, it only makes sense on which debt to pay sooner (hint: it’s the bigger, more expensive one). The sooner one eliminates interest expenses in consumer debt, the sooner one can reapply that monthly savings in paying down the mortgage.
#4: Equity Position
Everyone knows what its like to see the mortgage payment go out month after month, only to realize that a depressingly small percentage is being applied toward the principal.
For many, building up equity is the #1 reason for them to consider refinancing their loan. I’ve had many borrowers switch from a high-rate 30-year mortgage to a low-rate 15-year mortgage with similar payments, and although this can’t be done in every case, nearly every refinance presents an opportunity to shorten the term without increasing the payments.
For any refinance proposal I’ve personally done, I make it a point to show the borrower how soon they can pay off their mortgage with the same payments they are currently making. Every lender offers both 30-year and 15-year mortgages, and many lenders also offers terms of 25 and 20 years. In any case, it’s important to remember than any 30-year mortgage can be turned into a reduced term by increasing the monthly payments. Increased payments build equity faster.
Refinancing to a lower rate can help pay off the home sooner without increasing expenses. The security of a fixed rate helps get this job done over the long-term for most borrowers, but many have also taken advantage of the increased savings found in hybrid loans, which are perfect for building equity in a relatively short amount of time. Most folks refinancing to the hybrid are seeing their rate drop usually in excess of 2%, and with five years of an additional $100 in savings over the fixed rates, the hybrid loan is perfect for their situation. Either way, if your strategy is to build up equity in the home, your choices will vary depending on your priorities.
#5: Loan Type
For most of my lending career, I’ve been a fan primarily of the 30-year fixed mortgage. But for a lot of situations that I’ve come across in this recent economy, the VA hybrid loan has been a great, if not better, alternative in accomplishing borrower objectives. I find it important that all borrowers understand this loan before they dismiss it as an option; this is not the same ARM loan that was a principal culprit of our current economic crisis.
Take into consideration that this is a loan fully backed by the VA and FHA, and it has built-in adjustment caps to reduce movement over time. The average rate for the past 18 years on these has been below 5.5%. While not for everyone, these loans are best suited for borrowers with short-term expectations for the home. Many active-duty and empty-nesters love this loan as they would like to lower their expenses, but expect transition early enough to make the expenses of a fixed rate less attractive.
In any case, my general rule of thumb on deciding between fixed and hybrid is this: anyone with less than an eight-year plan in the home should seriously consider a hybrid, while anyone planning on staying longer than that should look more towards the fixed rates. Exceptions based on individual needs will apply, but when you’ve got the best loan, you can avoid unnecessary expenses and enjoy greater savings.
#6: Current Rate Trends
I never have, and never will, encourage timing the market when it comes to refinancing. If anything, I only bring up current rate trends (not the rates themselves) as something I would tell borrowers to not consider when they’re refinancing. In the seven years it’s been since I first started doing mortgages, I have only learned with my accumulated experience, insight, and inspiration that it is impossible to predict where the interest rates are headed.
If you’ve got a good opportunity to refinance now, take it. There were simply too many clients who gambled on waiting for a lower rate earlier in 2009. Waiting offered little to gain and much to lose; sadly, they didn’t realize this until it was too late.
It’s not a question of if, but more a question of when rates go back up, what will you do? Many potential borrowers change their tune in a rapidly rising interest rate market, and rates they decided to pass up are now something they’ll gladly take if it can still be done. Don’t get caught in this trap. If the opportunity isn’t good enough by the numbers, then wait. But if you’ve got a good opportunity in front of you now, carpe diem.
#7: VA Funding Fee
If you’re a veteran receiving disability income, the VA funding fee is waived altogether, making it no longer a factor in the refinance decision. For the rest of us, the type of loan you choose can change these costs dramatically. When most of you purchased using your first VA loan, you may have paid as much as 2.4% of the purchase price for your VA funding fee. On a $200,000 loan, that’s almost $5,000. For secondary purchases, cash-out, and debt-consolidation loans, this cost goes up to 3.3%.
This may be a necessary cost in order to pay off an expensive second mortgage or get the financing to finish some much-needed repairs. However, when I come across a borrower who is considering a cash-out loan getting only $10-15,000 out for an increased fee expense of $5,000, I help them to realize that this may not be the best option if there are viable alternatives like the two deferred mortgage payments and the escrow refund that come with the VA IRRRL.
The IRRRL (or streamline loan) is a real winner in this area because if the funding fee isn’t already waived, it’s capped at 0.5%—an incredible savings. FHA homeowners (another type of government loan) do not have the same benefit, and must pay an equivalent up-front mortgage insurance premium at full cost (even on the streamline program) on top of their monthly mortgage insurance. Comparatively speaking, the VA funding fee does the same thing as this mortgage insurance, but at a fraction of the cost, especially on the VA IRRRL.
#8: Time & Effort Required
Everyone who owns a home knows what it is like to go through the gauntlet of paperwork and waiting required to see if your loan will go through. Although the VA purchase and cash-out loans are no different than most other loans in the time and effort required, the VA IRRRL has one huge advantage over other loans when refinancing.
The VA IRRRL requires no appraisal and no income or asset verification. This basically means that you don’t have to worry about you home’s declining value, your loss of income, your increased expenses, and all of the paperwork you normally have to come up with for a lender to calculate these things. We require no pay stubs, tax returns, or bank statements. Any borrower can gather the required documentation in less than 15 minutes. Simply knowing that you’ve missed no payments by more than 30 days in the last 12 months and that you’ve got a credit score over 620 (required by most lenders) and no second mortgage (unless your 2nd lien holder is willing to subordinate) is enough to know that you’re automatically qualified for the VA IRRRL. When dealing with an experienced VA streamline specialist, your loan can easily close within 4 weeks, with very little effort required from the borrower beyond the hour or so need to apply for the loan.
#9: Gross Costs vs. Net Costs & Savings Differences
Although not a huge factor, your gross closing costs can be reduced significantly enough to impact your monthly savings. Take into consideration that the VA IRRRL allows you to potentially defer up to two months of mortgage payments and that it may provide an escrow refund if new escrows are being rolled into the loan. These are all part of the gross costs of the loan, and can be reduced a number of ways to free up more monthly savings.
If you are closing late in the year, you will likely see more months of escrows rolled into the new loan than if you close earlier. Regardless of this cost, your net costs remain unaffected. More escrows don’t just mean a larger loan, it also means a larger refund check after closing. Sometimes your loan can be kept with the same lender (even if you go through a broker like Low VA Rates), which would allow you to do an escrow rollover, thereby eliminating the expense of new escrows. Also, you can choose to defer only one month’s payment by bringing a payment to closing, thereby lowering the expenses. The bottom line is this: lower expenses means a lower loan amount, which means more monthly savings.
#10: Expediency & Preparation
The refinance process can be like navigating a jungle at times. Since I took my first loan application in 2002, I’ve learned one thing about mortgages: you have to expect the unexpected. Just about every loan has hiccups and hold-ups that keep it from closing smoothly. For many borrowers, the decision to refinance is finally made when situations come down to the wire. The rates are finally exactly where you want them to be, or your situation dictates that you need to defer two payments sooner rather than later.
So often, I come across borrowers desperate to get the loan closed ASAP, and in many cases we’re able to make it work. In just about every case though, it is wise to get started NOW, even if rates aren’t where you would like them to be. Who knows how long one part of the process may end up taking? Nothing makes for a better broker/borrower relationship than a borrower who gets his paperwork in early and done thoroughly.
Make sure your broker is able to get paperwork and revisions out to you quickly. Invest in the quality of your application up-front, and it will pay dividends. As a borrower, it is wise to make sure you present your broker with detailed, accurate and up-to-date information. No matter what, in the lending business sooner is always better than later. My motto: plan for the worst, expect the best.
That wraps up my top ten factors considered in a VA refinance Loan. Everyone out there has a different situation. Understanding those differences, and how they work with the many options available through the VA’s lending programs, makes it easy for me to help veterans all over the country to find a loan perfect for their situation. I hope you found this to be informative.