When you want to purchase a home with a VA mortgage, one of the things you'll need to do is to negotiate the interest rate on the loan with the lender. In some cases the most advantageous interest rate might not be available due to a variety of factors--a borrower's credit scores, the lender's interest rate sheet, etc. In many cases the borrower may decide to purchase discount points in order to lower the overall interest rate. It helps to think of discount points as "pre-paid interest".
How do these discount points work? According to the VA Lender's Handbook, Chapter Three, "Veterans may pay reasonable discount points on VA-guaranteed loans. The amount of discount points is whatever the borrower and lender agree upon. Discount points can be based on the principal amount of the loan after adding the VA funding fee, if the funding fee will be paid from loan proceeds."
In most cases, a VA borrower is required to pay for discount points out-of-pocket, but Chapter Three describes some situations where this may not apply. "Discount points may be rolled into the loan only in the case of refinancing loans, subject to the following limitations:
Interest Rate Reduction Refinancing Loans
A maximum of two discount points can be rolled into the loan.
If the borrower pays more than two points, the remainder must be paid in cash.
Refinancing of Construction Loans, etc.
Loans to refinance are:
• a construction loan,
• an installment land sales contract, or
• a loan assumed by the veteran at an interest rate higher than that for the proposed refinancing loan
Any reasonable amount of discount points may be rolled into the loan as long as the sum of the outstanding balance of the loan plus allowable closing costs and discount points does not exceed the VA reasonable value."
When it comes to VA Cash-Out Refinancing loans, Chapter Three says that while the discount points cannot "specifically be included" in the amount of the loan, "the borrower can receive cash from loan proceeds, subject to maximum loan limits...the cash received by the borrower can be used for any purpose acceptable to the lender, including payment of reasonable discount points."
It's important to remember that the Department of Veterans Affairs does not set interest rates for VA home loans--you'll need to discuss interest rates and any discount points with the lender and come to an agreement on those issues to move forward with the VA loan process.
Do you have questions about VA home loans? Ask us in the comments section.
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