There are two main varieties of VA loan requirements in order to borrowers to qualify. Applicants need to document both their military service and their ability to repay the loan.
The first requirement is that you have a Certificate of Eligibility (COE) from the VA. The COE proves to lenders that you are currently — or have previously been — a member of the US military. Your discharge must have been under conditions other than dishonorable. For any given qualifying wartime or peacetime period, there are specific active duty and service requirements. Servicemembers and eligible spouses would also need to obtain a COE.
Here are the broad categories of eligibility:
- Veterans who’ve met length of service requirements
- Active duty servicemembers who’ve served a minimum period
- National Guard member and Reservists
- Certain surviving spouses of deceased veterans
The second requirement is what you’d expect to see in any mortgage approval process, a thorough review of the borrower’s financial profile. VA loan underwriting covers basic qualifying criteria that anyone — not just vets — must meet in order to get a mortgage. The difference is that for VA loans, underwriting is more forgiving than say, a conventional or FHA mortgage. The criteria are commonly called the Three Cs and they are:
Let’s walk through the COE and Three Cs.
Certificate of Eligibility (COE)
Lenders would love to take your word for it, but verification of your service is required. That’s where the Certificate of Eligibility (COE) comes in; it’s evidence that says you can use the VA home loan Benefit. Eligibility is set by VA and determined by:
- Length of service/service commitment
- Duty status
- Character of service
Obtaining your COE it is the first step in the loan approval process. You can learn more about how to obtain your COE through eBenefits. However, most lenders can pull the COE for you, saving time you and a little bit of hassle. When it comes in, that’s when the ball can start rolling with a loan application and lender underwriting.
Lenders want to know if borrowers have sufficient income to make their monthly mortgage payments. You’ll provide proof of steady employment, Your income will be documented and then an underwriter will compare it to your debts.
Income can take many forms. It includes things like regular wages (show in W-2s) over a two-year period, interest, dividends, alimony and rental income. Your loan officer can provide a checklist of all the reportable types of income. More is always better as it helps your qualifying ratios (explained below).
The aforementioned documentation starts painting a picture of the relationship between your income and the proposed monthly mortgage payment. This first snapshot is called a Front End Ratio, sometimes referred to as Housing Expense Ratio. The Front End Ratio is one of two qualifying ratios used in FHA and conventional loan underwriting. But VA loans don’t. The reason it’s mentioned here because the Front End Ratio helps illustrate something the VA does care about, the Debt to Income Ratio (DTI).
Let’s start with the Front End Ratio and then turn it into a Back End Ratio or DTI.
Monthly Mortgage Payment ÷ Gross Monthly Income = Front End Ratio
Next, we pull in your other monthly bills and add it to the proposed mortgage payment. That forms the Total Monthly Debt Expense. Monthly debt includes installment and revolving debt payments like credit cards, auto loans, student loans and child support.
Total Monthly Debt Expense ÷ Gross Monthly Income = Debt to Income Ratio
Boom, there you have it! Now we have a pretty good idea how much can a borrower afford. VA guidelines allow a DTI of 41%.
Here’s an example. A borrower wants to take out a $300,000 loan. That’s roughly $2,000 per month for the mortgage payment (principal, interest, taxes and insurance) on a mortgage carrying a 6.5% interest rate. If the borrower also has monthly debt payments of $400, that brings the total monthly debt expense to $2,400. The borrower makes $80,000 per year. Is the borrower within the 41% DTI? Let’s check.
The borrower’s gross salary is $80,000/year which is $6,666/month. Take monthly gross debt expense of $2,400 and divide that by the gross monthly income of $6,666 and you get 36%. Yep, the borrowers DTI of 36% is less than VA guidelines of 41%. They would “pass” this portion of the test.
But wait, there’s more…
Your history of paying your bills on-time and in-full will show a lender that you have suitable credit. When a credit report is pulled, lenders get a detailed look your credit history as well a summarizing FICO score. You will sometimes hear a credit report called a “tri-merge” which is shorthand for a report that contains data from three major credit bureaus, Experian, Equifax and TransUnion.
While the VA doesn’t set a minimum credit score, lenders will have their own standards they follow. Their minimums hover around the 620 to 640 range.
Typical FICO score scenarios:
- 620 up to $417,000 and 640 for Streamline Refinance (IRRRL)
- 720 for $417,000 to $650,000
- 740 for over $650,000
While events that adversely affect your credit profile from the past won’t immediately disqualify an applicant, there are some VA guidelines that lenders follow:
- Bankruptcies – at least two years ago and reestablished credit
- Collections – no outstanding unpaid collections
- Late Payments – no more than one debt payment that’s over 30 days late
- Liens – no delinquent debt such as tax liens and government student loans
- Judgements – no outstanding judgements for non-payment
- Foreclosures – twelve months (no loss on security) or thirty-six months ago (if loss on security)
- Child Support – all court ordered child support must be paid up and current
In a FHA or conventional loan scenario, there are two things that collateralize or back up a loan, equity and the property itself. Usually there’s a down payment involved in a purchase transaction which creates equity in a home on Day 1. It’s that equity that creates safety cushion that helps lenders get their money back even if the house is worth less in foreclosure then the original purchase price.
In the case of a $0 down VA purchase, there’s no equity. This means the lender will rely solely on the property to collateralize the loan. VA-approved appraisers are the neutral, third party that estimate what a home is worth and that it meets VA guidelines.
Establishes fair market value – compares the property to recent sales of similar homes. Once the value is determined by the appraiser, the lender will fund the lesser of the purchase price or appraised value.
Verifies minimum property requirements – conducts a health and safety check of the property to identify obvious repairs needed, if any. However, this is a very cursory view of potential issues. This is not an inspection, and you are strongly encourage to get one. A house that is in good shape has fewer repairs thus reduces total cost of ownership. Peace of mind is worth something, too. Home inspectors can identify problems with major systems like plumbing, electric, heating, cooling and water. They’ll check structural components from the roof to foundation.
Here’s the key takeaway: Appraisals mostly cover the lender’s butt. Inspections cover yours.
Dwellings must be for personal occupancy of the borrower(s), not for renting out or to running a retail store. Here are the kinds of properties covered by the VA guarantee:
- 1 – 4 unit dwellings (single-family homes, duplexes up to 4 units)
- VA-approved condominiums
There’s also a $6,000 allowance for upgrading things like major appliances, attic insulation or installing solar panels with the VA Energy Efficient Mortgage (EEM) program.
VA Zero Down Program
VA Purchase Loans are one of the few mortgage products in existence where borrowers can buy a home with no down payment. Clearly, this is a pretty big advantage for taking out a VA loan.