One of the most confusing things about VA loans is what is known as the entitlement. While the concept itself is fairly straightforward, the way it's set up is almost guaranteed to make your head spin.
It doesn't help that the VA's own explanations of its benefit programs can be overly technical. In fact, the Home Loans section of the VA web site doesn't really explain what the entitlement is - they just sort of start talking about it and let you figure it out along the way.
Not only that, but it's similar but not identical to something called the VA guaranty. And that's not clearly explained either.
Entitlement vs. guaranty
In its simplest terms, the entitlement is how much the VA will guarantee for a qualified veteran or other eligible person on home loans they might obtain. It's not how much you can borrow - that's a different matter - but rather ensures that a portion of that loan that will be repaid to the lender in the event of default.
It's why you can get a VA loan with no money down, pay no mortgage insurance and get a low interest rate besides.
The basic entitlement is $36,000. That's how much the VA will guarantee on a home loan. Lenders will generally approve a mortgage for four times that much without a down payment, assuming you meet credit and income guidelines, so you can use the basic entitlement to buy a home for $144,000 with no money down.
The guaranty, on the other hand, is the amount the VA actually guarantees on a single loan. So if you purchased a $100,000 home with no money down, the guaranty would be $25,000.
Going beyond the basic entitlement
Doesn't sound like much? Not to worry. For homes over $144,000, the VA will guarantee up to one quarter of purchase price up to the local loan limit determined by the Federal Housing Finance Agency for a single-family home. That ranges from $417,000-$625,500 depending on local real estate values, and even higher in parts of Hawaii (As of 2015, the maximum VA guaranty is based on the same limit used for conventional loans backed by Fannie Mae and Freddie Mac).
You can still use a VA loan to buy a home that exceeds those limits but if you do, you'll need to make a down payment equal to 25 percent of the excess. So if you buy a home for $517,000 in an area with a loan limit of $417,000, you'd need to make a down payment of $25,000, or 25 percent of the difference between the two. Your VA guaranty on the loan would be $104,250, or one-quarter of $417,000.
The great thing about a VA guaranty is that it takes the place of a down payment. If you buy a $300,000 home with a $75,000 guaranty, the VA is guaranteeing it will repay up to $75,000 to the lender in the event of a default. So the lender would have to recover less than $225,000 in foreclosure before it would suffer any loss.
From a lender's perspective, that's similar to the security provided by a $75,000 down payment. So it's willing to offer you its best terms. That's also why VA loans don't require mortgage insurance, which is required on conventional mortgages with less than 20 percent down.
Note that the entitlement and guaranty are only amounts that the VA insures - they aren't grants or loans that pay for part of your mortgage. You still pay 100 percent of the cost of the home - it's just that the VA is backing you up.
Where it gets complicated - buying your next home
So why is there a distinction between the VA entitlement and the VA loan guaranty? It won't affect you as a first-time homebuyer, but it does come into play if you ever decide to buy another home with a VA loan - either to replace your first one or as a vacation property or other second home.
Technically, you can only use your VA entitlement once. So if you use your $36,000 entitlement to buy a $144,000 home, that's it. It's all gone. You don't have any entitlement left if you later decide you want to buy an $80,000 cabin in the woods for a vacation getaway while you're still paying on that first mortgage (though you can apply for a one-time reinstatement once that mortgage is paid off).
The exception though, is that you're still entitled to your additional guaranty amount if you choose to buy another home that exceeds $144,000 in price. Remember, the guaranty will cover one-quarter of the purchase price up to $417,000 in all of the U.S., and up to $625,500-plus in high-value areas. So you've still got some money to work with.
Calculating the guaranty on a second purchase
The way it's calculated is to take the base guaranty for the home you're buying and subtract the entitlement you've used so far. So let's say you used $30,000 of your base entitlement to buy your first home for $120,000 and now are looking to buy another home for $417,000.
The base guaranty on a $417,000 home is $104,250 (one-quarter of $417,000). But you've already used $30,000 of your entitlement to buy your first home, so you subtract that from $104,250 and get $74,250 as the guaranty available to you on the second home. You'd then need to come up with a $30,000 down payment to cover the difference.
The key is that the additional guaranty available to you depends on a combination of the home price and the local loan limit. Suppose in the example above you were buying a $500,000 home in an area where the loan limit is $625,500? Instead of the maximum guaranty being $125,000 (one-quarter of $500,000, the home price), it would be $156,375 (one quarter of $625,500, the loan limit).
You then subtract the $30,000 you previously used from $156,375 to get $126,375, which is the maximum available to you for buying a home in that area. The VA will still only guarantee one-quarter of the purchase price, or $125,000, but you still would avoid having to make a down payment in that situation.
Lower-value homes and reinstatement of the entitlement
Remember: the total guaranty available to you for all your VA home loans combined is one-quarter of the loan limit of the area where you're buying your newest home. So if you're buying your second or third home with a VA loan in an area where the loan limit is $450,000, the maximum guaranty available to you is $112,500, less whatever you used on your previous VA loans. Again, the VA will not guarantee more than one-quarter of the value of any single home using the bonus guaranty.
An important exception to note: unfortunately, the additional guaranty is only available on homes priced above $144,000. So if in the example above you used $30,000 of your base entitlement to buy a $120,000 home and later wished to buy an $80,000 cabin, you'd have only a $6,000 guaranty available for the purpose.
Remember though, that you can apply for a one-time reinstatement of your original entitlement once that loan is paid off. However, that may be difficult if you're trying to move up to a new home before the old one is fully paid for.
The VA loan program is a wonderful benefit for those who've served in the armed forces or in certain other military affiliations. But the rules can be complicated, especially if you're using the program for a second or third time. For specific guidance on your own situation and a more detailed explanation of current guidelines, talk with a VA-authorized lender.