The VA Loan Guaranty is the key to how VA loans work. The VA doesn't actually make home loans, but instead guarantees part of the loan amount on approved mortgages issued by authorized VA home loan lenders. This typically is 25 percent of the purchase price, up to $104,250 in most of the country, or enough to purchase a $417,000 home with no money down. Higher VA loan limits, up to $1.1 million, are allowed in certain counties with more expensive real estate (2013 limits).
For the lender, the VA guaranty is like having a 25 percent down payment as a hedge against default. So the VA borrower gets all the benefits of a hefty down payment – low interest rate, easier qualifying, no PMI – without having to put out the cash. Of course, he or she is still responsible for paying off 100 percent of the loan.
If you don't use all of your VA Loan Guaranty, you can apply the remainder toward buying a second or vacation home. You can also apply to recover the full amount of your original guaranty once you pay off the mortgage on your home, although you can only do that one time.
More information: The VA entitlement explained
Buying a more costly home
If a VA borrower wants to purchase a home that costs more than the maximum guaranty amount – say, a $500,000 home in a county with the standard VA loan limit of $417,000 – they can still do that by putting up some of their own money as a down payment. This is typically 25 percent of the amount over and above what the VA will guarantee.
So in this case, the difference between $500,000 and $417,000 is $83,000. Twenty-five percent of that is $20,750, which is the down payment that would typically be required.
Buying another home
A veteran or active duty service member may use a VA loan to buy a second or even third residence if they have not used up their maximum guaranty entitlement for the county where the property is located. The actual calculation can be complicated, but basically the total loan guarantees used for all homes cannot exceed the VA Loan Guaranty for the county where the property being purchased is located. Examples of how the guaranty may be calculated are provided here .
Restoring the guaranty entitlement
Once a veteran or active duty service member uses any portion of their guaranty entitlement, that portion of the guaranty is no longer available to you as long as you own the home. For example, if you buy a $300,000 home and use a $75,000 guaranty, that $75,000 is locked up and not available to you again until the home is sold and the loan is paid off.
There is an exception to this rule where a veteran may have their entitlement restored after they have fully paid off the VA loan it was used for but retain possession of the property. However, this exception can only be used once.