Bad Credit? How To Get A VA Loan

The United States Department of Veteran Affairs boasts one of the best systems of veteran assistance in the world. The Veterans Administration was formed in 1930 and became an executive branch department in 1989 to provide life-long healthcare services to eligible military veterans and their families. And because financial wellness is part of a veterans’ ultimate health and wellness, the Veteran Benefits Administration (VBA) offers home loans as one of the many services they provide. While many veterans are aware of this program, some may not know how to get a VA loan with bad credit.

Most military members spend much of their young adult lives focusing on their military service, rather than building a credit history and financial management skills. According to a Consumer Finance Protection Bureau survey, 18% of service members don’t even have a scorable credit history upon leaving the service.

Credit Scores at Time of Exit from Active Duty, By Months Served

Chart detailing the relationship between time spent in active duty and credit score.
Source: Debt and delinquency after military service, Consumer Financial Protection Bureau

Findings in the study reveal a decrease in credit scores for enlisted service members immediately following departure from active-duty military service, due to increased delinquencies and defaults. And an earlier study revealed that young service members are more likely to take out auto loans and open credit card accounts after joining the military. But, unfortunately, they’re also more likely to default on that debt. Additional research is in progress to uncover the reason for this trend.

If you’re a veteran, active service member, or spouse of a servicemember and are struggling to get approved for a home loan based on your credit score, the VA loan is a great option. Let’s get into what a VA loan is and how it works.

What is a VA Home Loan?

A VA loan is a mortgage or home loan available through the U.S. Department of Veteran Affairs program established in 1944. The program provides financial assistance for military service members. Under the Servicemen’s Readjustment Act – also known as the GI Bill – the VA will guarantee or insure a home, farm, or business loan made to veterans by lenders. In 2020, the government certified over 25 million VA home loans. That’s after a record 1.2 million home loans were guaranteed during that year.

While backed by the federal government, a VA loan is still originated and serviced through private lenders, like a bank. But instead of the bank guiding who qualifies, the Department of Veteran Affairs sets the rules for who may be eligible and issues minimum requirements for mortgage approval.

Many military members already take advantage of the VA loan, but it’s clear there is a lack of awareness of this option. Only 33% of homebuying veterans reported they knew about the VA home loan benefit, according to a 2010 national survey. As an advocate for financial wellness for all, we’re embracing the opportunity to educate potential borrowers about the VA loan option.

Benefits of the VA Home Loan

With a VA loan, homebuying becomes more accessible for service members who spend years relocating from the base to base on behalf of their country. One of the most attractive features of the VA loan is that it does not require a down payment. Few leave the service with savings, steady income, or credit score to buy a home immediately.

So can you get a VA loan with bad credit? The short answer is yes.

This program was created to help bridge that gap. While there’s only one other home loan that doesn’t require a downpayment – the USDA loan – that isn’t the only reason a VA loan is a better choice for borrowers with bad credit. Let’s compare the VA loan to a traditional mortgage.

Table showing the differences between a VA loan and a traditional mortgage.

Are you wondering what Private Mortgage Insurance (PMI) is? It’s mortgage insurance that you are required to pay if your down payment is less than 20% of the home’s value. It’s typically added to your monthly mortgage payment. VA loan recipients can easily avoid this extra cost, because the federal government guarantees up to 25% of the down payment.  

Who Can Qualify for a VA Home Loan?

If you have served in any active or reserve units of the military, including the National Guard, you are likely eligible for a VA Home Loan. Activity duty members need to have served a minimum of six months, while the Reserve and National Guard need to have served at least six years.

In addition, spouses of military members who died in active duty, from a service-related disability, or are missing in action or a prisoner of war are eligible. The only stipulation is that they cannot before reaching 57.

To qualify for a VA loan, the borrower must acquire a Certificate of Eligibility (COE) from the Department of Veteran Affairs before applying with your lender. Borrowers request a COE through an online platform or send an application by mail. You’ll need to present specific information based on your military service qualification:

Borrowers must also have proof of stable income from either employment, Social Security, disability payments, and investments – or a combination of them. The VA doesn’t set a required minimum credit score. Still, most lenders prefer to work with individuals with a 620 or above score, but some lenders may go lower.  

Medium shot of the front of a pale orange house flanked by bright green trees. Red flowers hang in baskets from the roof of the white porch.

Four Types of VA Loans

Service members can buy, build, improve, or refinance their homes with the help of a VA loan. Between the VA direct loan and 3 VA-backed loans, one of these options is sure to take you another step closer to your dream home. Loan types include:

  1. Purchase Loan
  2. Cash-out refinance loan
  3. Interest Rate Reduction Refinance Loan (IRRRL)
  4. Native American Direct Loan (NADL) Program

Home Purchase Loans

The most commonly used VA loan is the home purchase loan. This loan will help veterans or active service members purchase a new or existing home with no down payment. With this type of loan, borrowers can purchase the following properties:

These loans are exclusively offered for primary residence only. Unfortunately, that means you can’t get a VA loan to help purchase a vacation home or investment property.

Cash-out Refinance

Want to convert a non-VA mortgage to a VA home loan? You can apply for a cash-out refinance loan. It’s one of two refinancing options offered through the agency. Like any other cash-out refinance loan, you can take cash out of your home equity to pay for other expenses. Common uses for a home equity cash-out include higher education expenses, home improvement projects, and weddings.

While the VA doesn’t offer personal loans for general financing needs, the cash-out refinance loan is the perfect way for a borrower to get access to cash quickly.

Interest Rate Reduction Refinance

If you already have a VA loan, an Interest Rate Reduction Refinance Loan (IRRRL) can reduce your monthly mortgage payment. It can also convert your mortgage from a variable interest loan to a fixed interest loan.

A fixed interest loan doesn’t always lower your mortgage payment, but it will make sure it’s stable from month to month. It’s also known as the Streamline Refinance Loan, because it streamlines your repayment process.

Native American Direct Loan Program

Native American veterans seeking to buy, build, or improve a home located on federal trust land can use the Native American Direct Loan Program (NADL). The VA created this program in 1992, because lenders would not offer loans on federal trust land. After all, Tribes are considered Sovereign Nations. The NADL helps fill the mortgage lending need for Native American veterans and their spouses who seek to reside on federal trust lands.

The benefits of the NADL are fundamentally the same as the other loan programs, with the additional perk of a guaranteed low-interest, 30-year fixed mortgage. In addition, the Tribal government that rules where you want to reside must have an agreement with the federal government detailing how the program will work on its lands.

Other VA Loan Options

When purchasing or refinancing a home with a VA loan, there are additional VA programs that you can use in conjunction with the mortgage. They must be closed simultaneously with your VA loan. Options include:

As you can tell, the VA has worked hard to provide former and active military members with the opportunity to thrive in homeownership, even if they have bad credit.

Tips for Finding a VA Loan

If you’ve decided a VA loan is the best option for you, and you’ve received your Certificate of Eligibility, there are many great lenders you can work with. Let’s explore how to get a VA home loan with poor credit.

While most VA loans will have similar qualifications and application requirements, they are not all created equal. In addition, lenders have the power to make the actual terms of the loan to best benefit their institution.

Here are five things to keep in mind on your search:

  1. Understand your financial standing. Your credit score, income, and debt-to-income ratio can significantly affect the terms of your loan.
  2. Pay attention to the fees. You’ll always receive a VA funding fee, but other costs may vary from lender to lender.
  3. Look at the Annual Percentage Rate (APR). Most lenders lead with the interest rate, but the APR will also include other fees charged by the lender.
  4. Shop around. Inquire with multiple VA mortgage lenders and review their qualification requirements and introductory interest rates and fees.
  5. Find a lender you trust. You’ll likely work with the lender for a long time. While the VA has you backed, you’ll want to work with a mortgage lender that provides the services you prefer, like online payments.  

When it comes to finding a lender you trust, there are a few categories you may want to explore. Each has its advantages and disadvantages.

Direct Lenders

A direct lender is a financial institution – like a bank, credit union, or online lender – that originates mortgages with their own money. Loan servicing, processing, and underwriting take place in-house. Using a direct lender is especially beneficial when you have a pre-existing relationship. Your servicing will be smoother, and you might be more likely to get approved.

Pros of Direct Lenders:

Cons of Direct Lenders:

Mortgage Brokers

If you want to shop around and have a few extra dollars to spend on a commission fee, you may want to work with a mortgage broker. Mortgage brokers don’t have ties to a single bank or financial institution. Often, they work with a variety of lenders to help you find the best possible product. A broker will help you understand the loan terms and advocate with lenders on your behalf. However, you will exchange a lower rate or better term for a commission.

Pros of Mortgage Brokers:

Cons of Mortgage Brokers:

Military Financial Services

Military financial services are technically like any other bank or credit union. A military bank will offer the same products, as most banks with unique benefits and perks for military members. In addition, these banks understand the military lifestyle of frequent travel and relocations, offering services like out-of-network ATMs and remote check deposits.

Some of the most popular military banks include:

  1. USAA
  2. Navy Federal Credit Union
  3. PenFed Credit Union
  4. Airforce Federal Credit Union

There are hundreds of military banks across the United States that offer VA loans.

Making Homeownership Accessible For All

While the VA loan is an excellent loan option for borrowers with bad credit, it’s not an answer for individuals who do not have ties to military service.

A USDA loan is the only other loan on the market that doesn’t require a minimum down payment, and low-credit individuals in urban areas do not qualify. Everyone deserves access to financial tools that can help them achieve holistic health and wellness – even those with subprime credit.

We can’t affect mortgage requirements, but we can provide financial wellness benefits that help employees take control of their finances and work toward eligibility.

When a company works with BrightUp, it can offer employees a full suite of wealth-building and well-being tools. With personalized financial education, such as this article, and financial planning tools, we can help future homebuyers improve their chances of getting approved for a loan. We also offer access to compassionate capital to help them avoid defaulting on debts, thereby hurting their chances of getting approved.

Together, we can build opportunities for financial flexibility for all. Contact our sales team to learn more about BrightUp’s financial wellness benefits, and pass this article along to a friend!

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