FHA and VA loans are both popular options for first-time homebuyers. They have attractive benefits, including flexible lending guidelines, competitive mortgage rates, and low down payment requirements. If you qualify for both, you may be wondering which one is right for you. We’ll compare FHA vs. VA loans, how they work, and their requirements.
Key Takeaways
- FHA and VA loans are government-backed loans with distinct characteristics that may make one better than the other.
- Top factors to consider between an FHA vs VA loan include the interest rate, credit limit, mortgage insurance and fees, down payment requirement, and more.
Key Differences Between FHA and VA Loans
FH and VA loans are government-backed mortgage loans, meaning the government insures these loans. This lowers the risk for banks and mortgage lenders, allowing them to offer better terms, such as lower interest rates and less stringent credit requirements. Because they are much more affordable compared to conventional loans, they are a great alternative for first-time home buyers.
FHA Loans
FHA loans are backed by the Federal Housing Administration (FHA), also known as the Office of Housing, within the Department of Housing and Urban Development. If you default on an FHA loan, the FHA will cover the remaining balance on the mortgage to your lender. These loans are meant to help borrowers with lower credit scores and limited down payments.
VA Loans
VA loans are guaranteed by the U.S. Department of Veterans Affairs (VA). They are only open to eligible active-duty service members, veterans, and spouses. The main benefits of VA loans are that they offer competitive interest rates and do not require a down payment.
Loan Eligibility
You can apply for an FHA loan as long as you meet the credit score, down payment, and DTI ratio requirements. But, unlike FHA loans, VA loans are not available to the general public. To be eligible for a VA loan, you need to be a veteran, military member, or eligible surviving spouse. Additionally, you’ll need to meet your lender’s credit and financial requirements and have a certificate of eligibility (COE). The COE confirms that you qualify for the VA home loan.
Property Type
You can use VA and FHA loans to purchase or refinance a primary residence. The property itself must meet minimum safety and structural requirements set by the Department of Housing and Urban Development for FHA loans and the Department of Veterans Affairs for VA loans. If you want to purchase a vacation home or investment property instead, you will need to apply for a conventional mortgage instead.
Loan Limits
FHA loans have limits that vary by county and number of units in the property. These limits are set at the beginning of each calendar year. For example, in certain high-cost areas, the limit for a one-bedroom unit ranges from $472,030 to $1,089,030. If you want to borrow more than the limit, you’ll need to have a larger down payment ready.
As of 2020, VA loan limits were removed for qualified veterans with a full entitlement. If you have a partial or impacted entitlement, you may be subject to loan limits similar to a conforming loan. The standard VA loan limit for 2023 is $726,200 for most U.S. counties, though high-cost areas have a loan limit of $1,089,300 for a single-family home.
Mortgage Insurance and Fees
One major difference between FHA and VA loans is that VA loans do not require mortgage insurance, while FHA loans do. Mortgage insurance is used to reimburse the lender if you default on the loan.
While VA loans don’t require mortgage insurance, you have to pay a one-time, upfront VA Funding Fee. The fee varies depending on your loan amount, military service, and whether you’ve used your entitlement before, among other factors. As of April 7, 2023, the VA funding fee ranges from 1.25% to 3.3% for purchase mortgages. There are exemptions, such as if you are receiving VA compensation for a service-connected disability or are a Purple Heart recipient.
If you are a first-time borrower with a down payment of less than 5%, your VA funding fee will be 2.15%. If you have a down payment of 5% or more, your fee will be 1.5%. If this isn’t your first time getting a VA loan, the fund fee starts at 3.3%.
FHA loans come with two mortgage insurance charges, known as mortgage insurance premium (MIP). You have to pay a one-time, upfront mortgage insurance premium amount, similar to the VA Funding Fee, and an annual mortgage insurance charge based on the remaining loan balance.
The upfront insurance premium is equal to 1.75% of the total loan amount. For example, if you borrow $300,000 for your mortgage, your upfront payment will be $7,000. The annual FHA MIP varies between 0.15% to 0.75% depending on your loan-to-value ratio (LTV). This amount will get split up and included in your monthly mortgage payment.
With both types of loans, you can either pay the fee upfront as part of the closing cost or roll it over into the total loan cost. Sometimes, borrowers may ask the seller to cover this cost.
Down Payment Requirements
VA loans typically do not require a down payment, meaning you do not have to put any money down to get the loan. On the other hand, FHA loans require a minimum down payment of at least 3.5%, which is still much more affordable than the standard 20% down payment for conventional mortgage loans. But, if you have a credit score of 500 to 579, you must put at least 10% down. On a $200,000 house, that’s $7,000 if you have good credit and $20,000 if your credit score is below 580.
Credit Score Requirements
The VA doesn’t have a minimum credit score requirement for VA loans. However, lenders may set their own thresholds, typically preferring a credit score of at least 620. If your credit falls below 620, you may have difficulty securing the loan. Meanwhile, FHA loans generally allow for a lower credit score, as low as 500 with a 10% down payment. If you don’t have the best credit, you may be better off applying for an FHA loan instead of a VA loan.
Debt-to-Income Ratios
Your debt-to-income (DTI) ratio is the percentage of your gross monthly income you pay towards debt, including the mortgage. The higher your DTI ratio, the harder it may be to pay for your living expenses and existing debt. While the VA does not have a maximum DTI requirement, lenders will closely review loan applicants with a DTI of more than 41% to ensure they have enough money to cover their monthly expenses after making their mortgage and other debt payments. For FHA loans, the maximum DTI is usually 50%, though the threshold may be lower depending on your credit.
Interest Rates
Compared to conventional loans, FHA and VA loans tend to have better interest rates, with VA loans often having a slight edge over FHA loans. For example, the average 30-year-fixed mortgage APR for FHA loans is 7.76% as of October 16, 2023, according to U.S. News. The average rate for VA loans is 6.62%, according to Forbes, while the average APR for a conventional 30-year-fixed-rate mortgage is 8.06%.
However, the interest rate you qualify for will depend on your financial situation. Like with any loan, borrowers with excellent credit scores and low debt-to-income ratios will qualify for the best terms.
FHA vs. VA Loan Refinancing
If you are eligible, you can refinance an FHA loan through a streamline refinance or a VA loan through an Interest Rate Reduction Refinance Loan (IRRRL). Both programs have fewer documentation requirements for refinancing than regular refinances and usually do not require a home appraisal.
You would refinance a mortgage primarily to take advantage of more favorable financial terms or circumstances. One common motivation is to secure a lower interest rate, reducing monthly mortgage payments and overall borrowing costs. This can result in significant savings over the loan’s lifetime.
Refinancing can also enable homeowners to access their home’s equity for major expenses like home improvements or to consolidate debt. Furthermore, refinancing allows you to shorten the loan term, paying off the mortgage faster and potentially owning your home outright sooner.
The Bottom Line
Both the VA and FHA loans are great ways to finance your home at an affordable rate. If you qualify for both, VA mortgages tend to be a better deal because they don’t require mortgage insurance or a down payment. However, if you have poor credit or low income, the FHA loan may be more accessible and a viable alternative if you do not qualify for a conventional loan.
