This article is part of "The Patrick AFB Online Relocation Package".
Many, if not most of my clients decide to use their VA benefit and go with a VA loan and for many reasons it's a great idea. Also many decide to do a 100% financing VA loan (no down payment) and I think that is a great idea too, but one that involves some risk.
One of the biggest advantages of a VA loan is that you can still do 100% financing. With all of the recent problems is the mortgage industry, 100% financing which was readily available a few years ago in many types of loans is no longer an option.
Another advantage is that there is no PMI (Private Mortgage Insurance) that gets added to your home payment. Typically PMI can cost between one half to one percent of the loan, according to the Mortgage Bankers Association of America. On a $150,000 home with 10% down the PMI can range anywhere from $56.25 to $112.50 per month added to your payment.
Although there is no PMI with a VA loan there is what is called the "VA Funding Fee". This paid by the veteran upfront so they contribute to the cost of their benefit. For discussions here will use the regular military rates for first time use of the benefit. Reserves and National Guard funding fees are a little higher.
- For 100% financing the funding fee is 2.15%
- For 95% up to 90% financing the funding fee is 1.5%
- For 90% financing or more the funding fee is 1.25%
The funding fee does not have to necessarily come directly out of the veteran's pocket. It can be paid by the seller through negotiation ,as long as all the seller total contributions don't exceed 4%. Most typically it just gets added to the loan. Here are some examples of this scenario:
$150,000 purchase price:
- 100% financing: $150,000 x 2.15 % = $3,225 (funding fee) so the veterans' total loan will be $153,225 ($150,000 + $ 3225).
- 95% financing: $150,000 - $7500 (5% down payment of $150,000) = $142,500. $142,500 x 1.5% = $2138 (funding fee) so the veterans' total loan will be $144,628 ($142,500 + $2138).
- 90% financing: $150,000 - $15,000 (10% down payment of $150,000) = $135,000. $135,000 x 1.25% = $1688 (funding fee) so the veterans' total loan will be $136,688 ($135,000+$1688).
The logical next question is should I do 100% or should I put money down. That depends on many factors, but the main ones are how long will you be staying in the home and does your house payment work into your BAH. Most of my clients will only be here at Patrick AFB for 3-5 years and under that scenario, 100% makes a lot of sense. Here is why:
Let's use the same $150,000 purchase price, you will need to sell the home in five years, and we'll use a 6.5% interest rate on the loan. The interest rate can be higher or lower, but we'll use this one for illustration purposes.
- 100% financing your monthly payment (P&I -just Principle & Interest) will be $968.49.
- 95% financing your monthly payment (just P&I) will be $914.21.
- 90% financing your monthly payment (just P&I) will be $863.96.
It looks like if you put down 10% you will be "saving" saving a lot of money, and if you plan on staying in the home for a long time you definitely will, but first you need to have $15,000 in available cash. The difference in the payment is $104.53 a month (100% vs. 90%) that that translates into $6271.80 over the five years. But you had to shell out $15,000 in cash to get the $6271.80 in savings and many of my clients prefer to hold onto their cash to use for other things. This is a personal decision and you have do what is best for your lifestyle.
Here is the one huge caveat with the above scenario. For obvious reasons a 100% VA loan has a lot of attractive qualities. But if you are staying in your home for a short period of time, there is risk. Under the above 100% scenario after 5 years (if you made all your payments and no extra payments) you will still owe $143,435. Assuming that the home's value stays the same, you will have $6,565 in equity at that point. ($150,000 (market value of the home) - $143,435 (balance of loan after five years) = $6,565)
Now you need to sell the home. The total costs for you to sell will be around 8% (estimate) of the selling price, which includes Realtor fees and other closing costs. In any scenario in order for you to break even, the home needs to appreciate at least 8% over those 5 years. If it doesn't appreciate that much or the home depreciates you will be digging into your equity. If the costs exceed the equity in your home you will have to pay the difference out of your pocket at the close of the sale. So the more equity you have, the better position you are in. If the home appreciates more than the 8%, then anything above that is money going into your pocket. Congratulations you have just made money in real estate, Mr. or Mrs. Monopoly.
So you can see there is definite risk involved, especially in the current market. The value of homes in the area has decreased dramatically since their highs of 2005. Are we at the bottom (we are closer to the bottom than we are to the top) and how much would a home purchased now appreciate in 5 years? If I had the absolute answers to these questions, I'd be a very rich man or be hosting a show on some cable business channel.