Do VA Loans Pay Closing Costs? What Borrowers Need to Know

VA loans, guaranteed by the Department of Veterans Affairs, offer distinct advantages for eligible service members, veterans, and surviving spouses purchasing a home. Beyond the purchase price, closing costs are fees and charges due at the close of a real estate transaction.

Components of Closing Costs

Closing costs are fees and expenses paid at the culmination of a real estate transaction. They are broadly categorized into lender fees, third-party fees, and government recording fees.

Lender Fees

Lender fees are charges from the mortgage lender. These include an origination fee for processing and funding the loan. An underwriting fee compensates for evaluating borrower creditworthiness. Lenders may also charge discount points, upfront payments to reduce the interest rate.

Third-Party Fees

Third-party fees cover services from other entities. An appraisal fee pays for a professional property valuation. Title insurance protects against claims over property ownership. Escrow fees compensate a neutral third party for holding and disbursing funds. Other common fees include surveys, attorney services, and credit reports.

Government Recording Fees

Government recording fees are levied by local or state authorities to officially register property transfer and mortgage documents. Buyers also pay prepaid expenses at closing, such as initial property taxes and homeowner’s insurance premiums.

VA Loan Regulations on Closing Costs

The Department of Veterans Affairs (VA) establishes specific regulations for closing costs on VA loans to protect borrowers from excessive charges. The VA prohibits borrowers from paying certain “non-allowable fees,” including lender charges like loan application, processing, underwriting, and attorney fees for the lender’s counsel.

Seller Concessions

VA loan regulations allow for “seller concessions.” Sellers can contribute financially to the transaction, up to 4% of the loan amount. This limit applies to items such as the VA Funding Fee, prepaid property taxes and insurance, and specific debts to help the buyer qualify.

The 4% seller concession limit is separate from standard closing costs, which sellers can also pay. There is no specific VA limit on how much a seller can contribute towards standard closing costs, such as title insurance or the loan origination fee, provided they are reasonable and customary for the area.

VA Funding Fee

The VA Funding Fee is a one-time cost, mandated by 38 U.S.C. 3729. The fee amount varies based on loan type, down payment, and whether the borrower has used their VA loan benefit previously.

For a first-time VA loan user with no down payment, the funding fee is 2.15% of the loan amount. Subsequent users without a down payment pay around 3.3%. A down payment can reduce these percentages; for example, a first-time user with 5% or greater down payment might pay 1.5%. The funding fee is usually financed into the loan amount but can also be paid in cash at closing.

Exemptions

Certain individuals are exempt from paying the VA Funding Fee. These exemptions include veterans receiving VA compensation for service-connected disabilities, those entitled to such compensation but receiving retirement or active-duty pay, surviving spouses of veterans who died in service or from service-connected disabilities, and active-duty service members awarded the Purple Heart.

Borrower-Paid Costs

Borrowers are responsible for some costs, including the VA Funding Fee (unless exempt), the VA appraisal fee, and credit report fees. Borrowers can also pay discount points to reduce their interest rate. Specific costs can vary by lender and regional market practices.

Understanding “No-Cost” VA Loans

A “no-cost” VA loan means the borrower does not pay out-of-pocket closing costs. These costs are not eliminated but are covered in one of two primary ways.

Higher Interest Rate

One method is a higher interest rate. The lender offers an elevated interest rate in exchange for covering the borrower’s closing costs. This means the borrower avoids upfront expenses but pays more in interest over the loan’s life through higher monthly payments.

Lender Credit

Alternatively, the lender may provide a lender credit to offset closing costs. This credit is often tied to the interest rate, where a higher rate enables the lender to offer a larger credit. The lender credit directly reduces the closing costs the borrower would otherwise owe.

Trade-Offs

Choosing a “no-cost” option involves trade-offs. While it preserves upfront cash, the long-term financial impact can be significant due to increased total interest paid. Borrowers should evaluate if immediate savings outweigh the higher cumulative cost over the mortgage term, considering their financial situation and how long they plan to keep the home.

Minimizing Borrower-Paid Closing Costs

VA loan borrowers can reduce their out-of-pocket closing costs through several strategies.

Negotiating Seller Concessions

Negotiating seller concessions can decrease upfront expenses. Borrowers can request the seller contribute towards their closing costs, leveraging the VA’s allowance for contributions up to 4% of the loan amount for various expenses, including the VA Funding Fee or prepaid items.

Shopping Around

Shopping for different VA-approved lenders is important. Lenders may have varying fees for items such as origination, processing, and underwriting. Comparing Loan Estimates from multiple lenders allows borrowers to identify competitive offers and reduce overall costs.

Funding Fee Exemption

Understanding eligibility for a VA Funding Fee exemption can lead to savings. Veterans receiving VA disability compensation or those awarded the Purple Heart are exempt. Confirming this eligibility reduces the cash needed at closing or the amount added to the loan principal.

Negotiate or Shop for Services

While some fees are fixed, borrowers may negotiate or shop for certain third-party services. Borrowers can select their own title company for competitive rates. Borrowers should also consider paying discount points to lower their interest rate, weighing the upfront cost against long-term interest savings.