VA Loan Affordability: How To Budget The Right Way

How Much House Can You Afford With A VA Loan:

Veterans, active military members, and eligible surviving spouses dreaming of owning a home have access to one of the most advantageous financing options available: the VA loan, backed by the Department of Veterans Affairs. These loans offer the benefits of minimal credit requirements and zero down payment, making it easier for qualified buyers to afford homes nationwide. However, the amount you can borrow with a VA loan is influenced by various factors including your financial health, the property’s location, and prevailing interest rates. Here’s a guide to understanding how much house you can afford with a VA loan, along with advice on reducing your mortgage payments.

Determining Your VA Loan Home Affordability 

The amount of home you can afford using a VA loan is primarily based on your financial situation. Factors such as your credit score, income, the type of property you’re interested in, and whether or not you choose to make a down payment will all impact the size of the loan you qualify for and, consequently, the price of the home you can purchase. These elements will be examined more closely later in the process. Nonetheless, there are tools available that can provide you with a preliminary estimate.

Applying the 28% Rule to VA Loans 

A commonly used guideline for figuring out your VA loan affordability is the 28% rule. This rule suggests that your monthly housing expenses should not exceed 28% of your gross monthly income. Although additional factors like existing debts and other recurring expenses will influence the overall affordability, calculating 28% of your gross monthly income can offer a solid starting point for estimating the maximum you can allocate toward your VA loan payment.

VA Loan Affordability Calculator 

To get a more precise idea of how much house you can afford with a VA loan, the loan affordability calculator can be of assistance. By inputting details such as your income, the type of property you’re aiming for, your credit history, and your location, this tool can provide an estimate of what you might qualify for under a VA loan.

Determinants of Your VA Loan Affordability 

The amount you can borrow with a VA loan is determined by your financial standing, which includes your income and monthly debt payments. It’s important to note that the VA itself does not issue mortgages but rather authorizes private lenders to provide and manage these loans. As such, finding lenders familiar with VA loans is essential, as their criteria may vary. Here are the key factors lenders evaluate when assessing your eligibility for a VA loan:

Credit Rating 

Your credit rating reflects your borrowing reliability, with scores ranging from 300 to 850. A higher score indicates a history of timely debt repayments, making you a more attractive candidate to lenders for on-time VA loan repayments. Lenders often set minimum credit score requirements for eligibility; for instance, a score of 580 or above might be necessary to secure a VA loan.

Moreover, a superior credit score can lead to more favorable interest rates, which in turn can increase the loan amount you qualify for or decrease your monthly mortgage payments. For example, a $300,000 mortgage over 30 years with a 7% interest rate results in a monthly payment of $1,995 before taxes and insurance, whereas a 5% interest rate lowers the payment to $1,610—a monthly difference of $385 for the same loan amount. Thus, maintaining a good credit score is beneficial for securing a larger loan.

Earnings 

Your earnings capacity plays a significant role in how much you can allocate towards a monthly mortgage payment. Lenders require proof of steady income, such as pay stubs, bank statements, a two-year employment history, and any benefit documentation you receive. They calculate your debt-to-income ratio using your gross income, which helps determine your loan qualification.

Debt-to-Income (DTI) Ratio 

Your DTI ratio, which compares your monthly debt obligations to your gross monthly income, is a critical measure used by lenders to gauge your ability to manage debt. This percentage helps lenders decide if you have the financial capacity to take on additional debt comfortably.

For instance, to calculate how much house you can afford with a VA loan, multiply your income by the lender’s maximum permitted DTI ratio. If your monthly income is $6,500 and the lender caps the DTI at 43%, your total allowable monthly debt, including the mortgage, can be up to $2,795. With existing monthly debts of $500, you could potentially secure a mortgage payment up to $2,295 and remain within the acceptable DTI range.

DTI and VA Loans 

Although the VA does not enforce a specific DTI threshold, lenders typically do. They might, for example, require a DTI of 45% or less. Should your DTI exceed this limit, lenders might make exceptions if you demonstrate sufficient residual income, which is the money left over after all personal debts and expenses are paid. This requirement varies based on your loan size, family size, and location.

If your DTI is high, you could still qualify for a VA loan if your residual income exceeds the lender’s requirement by 120%. For instance, if a lender necessitates $1,500 in residual income for VA loan applicants, having 120% of this amount, or $1,800, might suffice to qualify even with a higher DTI.

Down Payment Considerations for VA Loans

The amount of your down payment directly influences the affordability and size of the home you can purchase with a VA loan. While VA loans are notable for not requiring a down payment, which is a significant advantage for borrowers seeking to minimise upfront expenses, the decision to make a down payment can affect your financial obligations. Opting to make no down payment results in a higher principal amount, thereby increasing your monthly mortgage payments. On the other hand, a substantial down payment decreases the total loan amount and consequently lowers your monthly payments.

Example of Down Payment Impact

For instance, on a $350,000 home financed with a 30-year mortgage at a 7% interest rate, the monthly payment amounts to $2,328 (excluding taxes and insurance). By making a 10% down payment ($35,000), the initial loan amount drops to $315,000, reducing the monthly payment to $2,095 at the same interest rate. Thus, a down payment can significantly reduce both your monthly expenses and the total interest paid over the term of the loan, potentially allowing for a more expensive home within your budget.

It’s also important to note that VA loans include a funding fee, despite not requiring a down payment.

Interest Rates and Their Effect

The interest rate on your mortgage represents the cost charged by the lender for borrowing funds. It plays a critical role in determining both your monthly payment and the overall cost of the loan. Higher interest rates lead to decreased affordability due to increased monthly payments.

Interest Rate Illustration

For example, a $400,000 loan with a 30-year term at a 7% interest rate requires a monthly payment of $2,661. However, if the interest rate were reduced to 6%, the monthly payment would drop to $2,398. A difference of just one percentage point can thus significantly affect your monthly budget.

Loan Term Importance

The duration of your loan term is a key factor affecting your VA loan since it dictates the repayment period. Extending the term length allows for smaller, more manageable monthly payments, enhancing affordability. For example, a $250,000 loan with a 15-year term at a 7% interest rate demands a monthly payment of $2,247. Doubling the term to 30 years reduces the monthly payment to $1,663, making the loan more affordable.

Understanding Property Taxes

Property taxes add to the monthly cost of homeownership. The calculation method varies by location but generally involves:

1. Assessment: The property’s value is assessed based on criteria like size, location, and condition.
2. Tax rate: Local governments set a millage rate, or tax per thousand dollars of assessed value.
3. Calculation: Your annual property tax liability is determined by multiplying the property’s assessed value by the tax rate.

Many lenders handle property taxes through an escrow account, collecting monthly payments from borrowers to cover these taxes. Property tax exemptions, such as homestead, senior, or disability exemptions, can offer savings.

Homeowners Insurance Costs

Lastly, homeowners insurance is a mandatory expense for those purchasing a home with a VA loan, adding to the monthly housing costs. This insurance is typically paid by the lender through an escrow account. The cost of homeowners insurance varies based on factors like location, coverage limits, and the borrower’s credit history.

Understanding VA Loan Payments: Common Questions Answered

Explore the answers to common inquiries regarding VA loan payments below.

Is mortgage insurance required for a VA loan? 

No, VA loans do not necessitate mortgage insurance. Instead, borrowers are required to pay a one-time funding fee, which is 2.15% of the loan amount for first-time buyers and increases to 3.3% for subsequent loans. Opting for a larger down payment can decrease the amount of this funding fee.

What does an amortization schedule entail for a VA loan? 

An amortization schedule for a VA loan outlines the division of each monthly payment between the principal balance and interest. Initially, a greater portion of the payment is allocated towards interest. Over time, as the principal balance diminishes, an increasing amount of the payment goes towards reducing the principal.

Final Thoughts 

Your ability to afford a home with a VA loan hinges on several personal financial factors, such as your debt-to-income ratio and credit score, as well as specific loan details like its term and interest rate. A useful guideline for gauging affordability with a VA loan is adhering to the 28% rule, which advises that no more than 28% of your gross monthly income should go towards your housing payment. It’s vital to have a solid understanding of your finances prior to seeking loan approval.

When you’re prepared and meet the eligibility requirements, initiating the mortgage approval process could be your next step towards financing your home purchase with a VA loan.