VA Loan Compared to a Conventional Loan

If you’re a veteran shopping for a home, you may be comparing VA and conventional mortgages. Although there are many similarities, there are also some significant differences. In this article, you’ll learn: What is the difference between a VA loan and a conventional loan? And you’ll also discover the answer to: Is a VA loan better than a conventional loan? Read on to find out which is the right mortgage for you.

What is the difference between a VA loan and a conventional loan?

First, let's define what each loan is. Then we’ll break down what makes each type of mortgage different from the other. We’ll also look at the pros and cons of each. That way, you can determine what loan might be right for you.

What is a VA loan?

Veterans Administration (VA) loans are government-backed mortgages that offer highly competitive interest rates. One of the best things about VA loans is that you can get a VA loan with as little as a $0 down payment.

To obtain a VA loan, you will need a COE, and you'll need to verify that you can qualify for a COE. Here are some general service eligibility guidelines:

• Service Member:  If you’re on current active duty, you may be eligible after 90 continuous days of service. You’ll need your commander, personnel officer, or adjutant to sign a statement of service that proves your identity and states the date you entered duty.
• Veterans: The required service time in past conflicts varies from 90 to 180 continuous days. The VA lists their specific service requirements. In addition, an enlisted veteran who served after September 7, 1980, or an officer after October 16, 1981, may be eligible if they served for 24 continuous months.
• National Guard or Reservists: To meet the minimum service requirements, you’ll need 90-days of active-duty service between August 2, 1990, and the present (Gulf War), or the completion of 6 years of service.

What are some of the benefits of a VA loan?

VA loans are popular if you’re eligible because they offer several benefits over a conventional loan. These benefits include:

• VA Down Payment: As little as $0 down payment is necessary with a VA loan. The lowest down payment for a conventional loan is 3%. For example, if you were purchasing a $300,000 home with a conventional mortgage – you’d need $9000.
• VA Credit Requirements: Although the VA doesn’t have a minimum requirement for a borrower’s credit score, most lenders do. PenFed only requires a 620 score, which if you’re lower – don’t be discouraged. It can be possible to improve your credit in a matter of months and get into the 620 range.
• VA Interest Rates: Traditionally VA rates are lower than conventional rates. That means your house payment would be less, and you might qualify for a larger loan. But a significant advantage with a VA mortgage is that you don’t have to have excellent credit to get the best rates, which is often the case for conventional loans. Even with a credit score of 620, you’ll be pleasantly surprised by the good interest rate you could qualify for. In that way, you can tell that the Veterans Administration has a strong purpose to get borrowers into homes.
• VA PMI: There is no need for private mortgage insurance (PMI). If your down payment is less than 20% on a conventional loan, the lender requires additional mortgage insurance. That insurance covers the lender and is in addition to your regular homeowner's insurance covering the property.
• VA Closing Costs: There are limits on closing costs for VA loans and specific fees the borrower cannot pay. Instead, the seller pays these fees as "seller concessions." That's why it's vital when putting in an offer on a home to let your realtor know if you're going to be getting a VA loan. That way, they can include the correct financing information in your offer and contract. Doing that helps both the buyers and sellers know what to expect, and the transaction can go much smoother.
• VA Loan Limits: If you have your full entitlement, there are no loan limits. Of course, you still need to qualify for whatever amount you're requesting. Compare that to the conventional loan lending limits for 2023 of $726,200 for a single-unit property. In high-cost areas like certain parts of California, New York, and Hawaii, that amount increases to $1,089,300. Also, keep in mind, since the VA doesn’t have loan limits, you can avoid the higher rates of jumbo loans.
• VA DTI: The debt-to-income ratio (DTI) is one of the main calculations lenders use to determine a borrower's risk level. This ratio represents your monthly debts versus your monthly income (gross before taxes). Here's an example. If your monthly debts are $2000 and your gross income is $6000, your DTI is 33%. The VA does not have a maximum DTI. However, if your DTI is over 41% - you will need an explanation and most likely compensating factors like excellent credit and a fair amount of savings.
• VA Reusable Entitlement: You can use your VA entitlement more than once. For example, if you purchase a home today — and a few years later want to refinance — you can refinance your current loan into a new VA loan. The same applies if you sell your home and want to purchase another with VA funding.  
• VA Prepayment Penalties: With a VA mortgage, you’ll never have a prepayment penalty if you pay your mortgage off early. That’s not the case with some conventional loans, and these penalties can cost a bundle. Each conventional home loan program is different, but you want to be aware of any possible prepayment penalties before accepting the loan.
• VA Assumable Loans: A VA mortgage is assumable and can be an advantage in some cases. For example, if the loan has a much lower rate than what’s currently available, a borrower could save a substantial amount of money. However, the new homebuyer must meet VA credit and income requirements. One thing to keep in mind though is the veteran will not be able to get another VA mortgage until their original one is paid off.
• VA Refinancing: Refinancing can often be easier when compared to a conventional loan. If you have an existing VA loan and want to refinance, you won’t find any better deal or faster refinance than the Interest Rate Reduction Refinance Loan (IRRRL).

What are some of the disadvantages of a VA loan?

While VA loans have many substantial advantages, these types of mortgages don’t work for every situation. Here are some things to consider:

• VA Funding Fee: VA loans typically have an upfront funding fee. That fee ranges from 1.25-3.3% of the loan and can be rolled into the mortgage. Please refer to the VA for more information about funding fees and loan closing costs. That is a cost conventional loans don’t have.

• VA Occupancy: You must live in the home you’re purchasing to get a VA loan. You can’t use a VA loan to buy a rental property unless it’s a duplex. In that case, you must live on one side and rent out the other. You also can’t use a VA mortgage to purchase a second home or a vacation house. There is an exception on occupancy if you’re refinancing. The interest rate reduction refinancing loan (IRRRL) does allow borrowers to refinance homes they've lived in the past, but have turned into second homes or rentals.

• VA Property Types: Eligible property types are limited to one to two units, single-family dwellings. These include single-family homes, duplexes, condos on the VA registered condominium list, townhomes, planned unit developments (PUDs) — these are most similar to a condo — and some modular homes meeting specific guidelines.

• VA Eligibility: Unlike conventional loans, you need to be in the military, a veteran, or a surviving spouse (except if you assume a VA loan.) Not everyone is eligible for this type of mortgage.

• VA Appraisals: The Veteran’s Administration has a higher standard for appraisals as compared to what a conventional mortgage requires. The minimum property requirements (MPR) protect veterans from purchasing a home that could have health and safety issues.

• VA Closings: It can take a bit longer to close a VA loan than a conventional one. And some sellers may not want to wait. But there are things you can do to speed up the process. That includes having your COE ready, submitting all of your financial documents right away, using an experienced VA-approved lender like PenFed, and working closely with your mortgage loan professional.

What is a conventional loan?

A conventional loan, in contrast to a VA loan, is not guaranteed or insured by any government entities such as:

• Federal Housing Administration (FHA loans)
• Department of Veterans Affairs (VA loans)
• Department of Agriculture loan programs (USDA loans)

Instead, conventional loans are guaranteed by government-sponsored enterprises Freddie Mac or Fannie Mae, who either retains the loans for their investment portfolio or sells them to investors.

Conventional loans have a strict set of conforming guidelines — that’s why these loans are sometimes called conforming loans.

What are some of the benefits of a conventional loan?

There are many advantages of a conventional loan, and in some circumstances, they beat VA loans.

• Conventional Eligibility: Unlike VA loans that are only for service members, veterans, and surviving spouses, anyone can get a conventional loan as long as they can qualify financially and verify legal residency. 

• Conventional Down Payment: Borrowers can get into a home with as little as 3-5% down. Although that down payment is higher than what VA requires, it’s still within reach for many borrowers. Plus, most cities and states have grant programs with down payment assistance. So getting into a home with little to no money down could still be a possibility.

• Conventional Interest Rates: Conventional rates are some of the lowest if you have very good to excellent credit. Although you may get a loan with a credit score of 620, don’t expect the lowest rates. Generally, conventional rates never beat VA rock-bottom rates. 

• Conventional PMI: If you put down 20% or more, you can avoid private mortgage insurance (PMI). If you have PMI on your loan, once your home has appreciated and you’ve attained 20% equity — you can ask the lender to remove your PMI. That alone is a considerable advantage over FHA loans, where the PMI remains for the loan's life.

• Conventional Loan Limits: For 2023, conventional lending limits have increased to $726,200 for a single-unit property and $1,089,300 in high-cost areas. In many locations across the country, these high loan limits can buy you your dream home.

• Conventional Terms: You can typically expect more flexibility in the loan's length — for example, fixed-rate loans in 30, 20, 15, and 10-year terms. And adjustable-rate mortgages (ARMs) in 3, 5, 7, and 10-year terms.

• Conventional Occupancy: This is where conventional loans beat out VA loans. If you’re looking for a loan to purchase a second home, vacation property, or investment property, you can do that with a conventional loan — not a VA loan.

• Conventional Property Types: There isn’t a lot of difference between the types of properties you can buy with a VA loan versus a conventional mortgage. Eligible properties include one and two units, single-family homes, approved condominiums, townhomes, planned unit development (PUDs) — these are most similar to a condo, and some modular homes. You can also buy land with a conventional loan — but not all lenders provide land loans. The only way you can purchase land with a VA loan is if it’s in conjunction with building a home.

• Conventional Appraisals: Although inspectors follow specific guidelines, conventional appraisals are less strict than a VA loan. Some properties that wouldn't pass a VA appraisal may pass a conventional one.

• Conventional Closings: This is another advantage over VA loans. Conventional loans can close faster than VA mortgages. And in a hot real estate market, sellers may require a fast close.

What are some of the disadvantages of a conventional loan?

Every loan has its pros and cons. That’s why there are so many different types of loans. One loan doesn’t fit all circumstances. When considering a conventional (also called conforming) loan, consider the following.

• Conventional Reserves: A conventional loan might require reserves (money in the bank that will be there after your loan closes). The purpose of these funds is to cover your house payment in case of a financial setback. The borrower’s overall financial situation and creditworthiness determine the amount of funds needed. For example, a borrower with excellent credit and a stable job history may not need to have reserves. But a borrower with a lower credit score may have to have enough funds in savings to cover a month or two of house payments.

• Conventional Credit: A conventional loan will probably be harder to qualify for. Even though the minimum credit score required is 620, the interest rate might be high. If you can get a VA loan, that’s most likely your best choice.

• Conventional Prepayment Penalty: Some conventional loans have a prepayment penalty. That means if you pay the loan off early, you will have to pay the lender money. VA loans don’t have prepayment penalties.

• Conventional Interest Rates: Even though conventional loans offer low rates, not every borrower qualifies for the lowest. If your credit score is less than 700, your rate will be higher. If you’re putting down less than 20%, your rate will be higher. It’s not that way with VA loans. The rates are low across the board as long as you meet the minimal credit qualifications of a 620 score.

• Conventional Refinance: Refinancing into a lower rate or different term (for example, a 15-year loan from a 30-year loan) can be very advantageous for borrowers. But, if you qualify for a VA loan, an IRRRL is generally faster and easier, requires much less paperwork, and better rates.

What type of loan is best for you?

We’ve gone over a lot of helpful information comparing VA loans with conventional loans. To make it even easier for you — we’ve created this chart so you can see the main points all in one place.

What is the difference between a VA loan and a conventional loan? Here’s a quick comparison.

As you can tell from the above, the best loan for you depends on your situation. Overall, if you are a veteran, always check a VA loan first — unless you’re purchasing a second home or investment property. At PenFed, we make it easy for you. Contact us today. One of our trained mortgage professionals can compare what a VA versus conventional home loan would be for you as far as rate, payment, and term. That way, you decide for yourself if a VA loan is better than a conventional loan?