You want to refinance to save money, right? This usually means securing a lower interest rate. The VA IRRRL program makes it simple to achieve this goal. But just how do you get the best rate? There are many factors at play here. You cannot just say you want to lower your rate and get it. Lenders must look at your financial picture to determine what rate you qualify to receive. Here we will talk about the various factors that play a role.
What is your Risk Level?
Basically, what lenders look at is how risky you are to them. The VA IRRRL program offers the unique benefit of not verifying very much. Lenders don’t need to ask for your credit score, income documentation, or the value of your home. They can use the original qualifying factors. Not all lenders will do this. No matter which way lenders go, though, they use some determining factors to determine your risk level. The riskier you are, meaning the lower the credit score and the higher the debt ratio, the riskier you become. Lenders look at you as an imminent risk of default. In order to make up for the risk, they charge a higher interest rate. Lower risk borrowers, on the other hand, have lower rates. Let’s look at the individual factors that play a role.
Your credit score gives lenders a good idea of how risky you are because it shows how timely you pay your bills. It also tells them how you use your available credit. The more outstanding debt you have compared to your available credit, the lower your credit score goes. If you use a lender that does not pull a new credit score for the VA IRRRL, expect the lender to base your rate on the credit score used for your original VA loan. If you know your credit score is higher now, you may benefit from requesting the lender to pull your credit for the streamline loan.
Your debt ratio plays another large role in the interest rate provided to you. The amount of debt you have compared to your gross monthly income helps lenders predict your risk of default. The VA does not put a lot of emphasis on the debt ratio, but lenders still might. The VA is more concerned with your disposable income at the end of the month. They want to make sure veterans have enough to comfortably meet their daily living expenses. The VA prides themselves on this factor as they state it is the reason they have a low default ratio.
That being said, lenders may still pay attention. Even if they don’t pull your credit to find out what current debts you have outstanding, they can still compare your mortgage to your gross monthly income. Luckily, the only amount you can include in the VA IRRRL program is as follows:
Outstanding principal balance + allowed closing costs + up to $6,000 in energy efficient changes = VA IRRRL loan amount
You cannot include anything else in the loan amount. You also cannot take cash out of the equity of your home. This way you can keep your debt ratio under control. Conventional loans require a front-end debt ratio of 28% while FHA loans go as high as 31%. What your lender determines as a “low debt ratio” may vary. The lower your credit score, though, typically, the lower your interest rate.
Term of the Loan
Another main factor in your interest rate is the term of the loan. The most common choice is 30 years. This is a non-risky loan term as it amortizes your loan over a long period. This makes payments lower, even if the rate is slightly higher. Lenders see this term as riskier than a 15-year term, though. This is because they must loan the money for a longer time. If you pay the loan off in 15 years, the bank has the opportunity to lend to another borrower and make more money. 30 years is double that, which increases the risk because it gives more time for the borrower to default.
Just how much you save on a 15-year loan versus a 30-year depends on the lender and your other qualifying factors. For example, a borrower with a low credit score and high debt ratio will not benefit much from taking a 15-year term. He still poses a high risk to the lender. A borrower with a 30-year term, good credit and a low debt ratio may secure a lower rate just because he is a lower risk.
We don’t recommend you base the term you take on the lower rate you can secure. You should give careful thought to the term as it raises your payment. If you opt for the 15-year term, you agree to pay the loan off in half the time you would with a 30-year term. You should make sure you can truly afford this payment before jumping at the lower rate.
The State of the Market
Of course, any interest rate, whether for a VA IRRRL or any other loan, depends on the market conditions. Rates change throughout the course of the day, sometimes multiple times. If you apply for a loan with three different lenders at three different times of day, you may get vastly different quotes. It depends on the market and how it performs. This is why shopping around and making sure you get the lowest rate possible is important.
The best way to secure the lowest interest rate possible on a VA IRRRL is to prepare yourself. Make sure you take the time to increase your credit score and lower your debt obligations. The fewer risks you pose to the lender, the lower your rate. Even if the lender doesn’t pull your credit or look at your new debts, you should consider your situation when you first took out your VA loan. Are you in a good position to secure a low rate? If not, take the time to fix these factors and requires lenders to re-evaluate your risk level. This way you can make the most out of the VA IRRRL program.