As a military veteran, perhaps one of the greatest benefits is access to the VA Home Loan program. Although many veterans are familiar with the concept, few understand the full reach of potential benefits. While this may be partially to blame on the intricacies of government and difficulties with interpretation, the larger issue is a lack of truly helpful information promoting awareness. As such, I felt it necessary to share what I recently discovered about qualified types of properties and loan limits. Did you know that the VA Home Loan can be used to purchase multi-family properties with up to four units, commonly referred to as a fourplex? Did you know that the VA has a higher loan limit for such a property – up to $801,950.00 in 2015 with zero down payment? Before we dive into the details on this, we first need to look at some basics on the program.
- No down payment required – as long as the sales price does not exceed the appraised price
- No Primary Mortgage Insurance (PMI) required – saves hundreds of $$ monthly over conventional
- No penalty for early mortgage payoff
- Limitations on closing costs
- The potential for the VA to assist you should you run into financial issues down the road
Also, you should understand that the benefit can be used more than once and you do not have to be a first time home buyer.
- Buying a residence
- Building a residence
- Refinancing a residence
- Concurrently purchasing & improving a residence
- Improvement of a residence through installation of energy efficient features
- Purchasing a manufactured residence or lot
The VA states that “residential property may not consist of more than four family units and one business unit except in the case of certain joint loans.” This means that you can purchase a duplex, triplex, fourplex, or five-unit building (one designated as a business unit) with the VA Loan because it is considered “residential” property. Additionally, it is well known in investing circles that multi-family properties with more than four units are considered “commercial” property by the banks.
Veteran Borrower Requirements
- Suitable Credit – generally a FICO score of 650 or above
- Sufficient income – with multi-family properties, tenant rents qualify as income (Note 1 @ bottom)
- Discharge – If you received a Dishonorable discharge, you are not eligible for the program. If you received any other type of discharge, including Other-Than-Honorable and Bad Conduct, you can utilize the VA Home Loan benefit.
- Service Duration / Time in Service requirement – varies greatly depending on when you where in the service and whether you were active duty, reserve, or national guard. This link spells it out – VA Home Loan Eligibility Requirements
Up to this point we’ve established that the VA Home Loan is a powerful tool for purchasing a home and is a no-brainer. Most Vets use their entitlement to purchase a single-family home where they can raise their family – and that’s great! However, the majority do not realize they could utilize their benefit as an investment vehicle and potentially create a monthly passive income stream of one or two thousand dollars and/or live mortgage free. All that is required is making some smart decisions and delaying the gratification of buying that dream home for the family. Of course, a portion of those “smart decisions” revolve around doing your homework on real estate investing and drawing on the right resources for help – but that is beyond the scope of this post.
How It works
The VA does not issue loans, but instead issues a guarantee to financial institutions which do issue loans. Generally speaking, this guarantee is 25% of the loan amount up to VA specified limits. This means in the case of a mortgage default, the VA is responsible to pay 25% of the loan amount to the lender. This decreases the lender’s risk with the same effect as a 25% down payment. Hence there is no down payment or primary mortgage insurance requirement levied on the Veteran borrower by the lending institution. In essence the VA “has your back”.
What are the VA loan limits? They vary based on the county in which you are purchasing the property. Click here for the annual limits by county. Let’s take a look at Denver County, Colorado below:
VA Loan Limits in Denver County, CO
Note the stair stepped loan limits starting at “one-unit” and going up to “four-units” – these are the maximum loan limits for single-family units, duplexes, triplexes, and fourplexes respectively! So in Denver County, CO, the VA would guarantee loans up to $424,350.00 for a single-family home, $543,250.00 for a duplex, $656,650.00 for a triplex, and $816,050.00 for a fourplex. All with ZERO down payment! If a borrower wishes to exceed the limit, he or she is responsible for 25% of the difference. For example, a two-unit home in Denver County that costs $550,000.00 would require a down payment of $1,687.50 ( ( $550,000 – $543,250) / 4 ) = $1687.50 ).
The main difference between a residential property and an investment property is whether or not you as the owner live in the property, i.e. your primary residence. If you live in one unit of the property and rent out the remaining one to three units, the property is considered residential; if you hold the note but rent out all units, it’s an investment property. The VA is not in the business of backing property investors, BUT they don’t mind if you make a few bucks off your personal assets. Hence an occupancy requirement must be met:
- You must certify your intent to occupy the property within 60 days of closing. This means you must move into the property and use it as your primary residence. Occupancy Requirements – VA Lender’s Handbook Ch 3, Sect 5
- However, there are no duration requirements regarding how long you must live in the property. If your situation changes (more kids, finances, or just decide you want a change) and you decide to move out a year or two down the road and rent out the final unit, it does not violate VA terms as long as that was not your intent from the beginning.
Re-use of VA Home Loan – Restoration of Entitlement
If you have already used your VA Home Loan benefit and still own the property you have three options if you wish to use the benefit again elsewhere:
- Dispose of the property to free up the amount of your entitlement used to cover the property.
- Re-finance the property into a non-VA Loan and file for “Restoration of Entitlement” – this can only be done once in a lifetime: Restoration of Entitlement – VA Lender’s Handbook Ch 2, Sect 6
- Use your remaining entitlement – If you did not use your full entitlement ($424,350.00 for a single-family home in Denver County) you can use your remaining entitlement for the purchase of a second property. If your first single-family home cost you $200K, then $425,350 – $200,00 = $225,350 available for your second purchase. Anything above that would require a down payment of 25% of the difference – so continuing this example, if your second purchase was a $300K house, the VA would guarantee $225,350 of that $300K and you would be responsible for a down payment of $18,662.50 (($300,000 – $225,350)/4).
Real Life Example
Putting all of this together, let’s take a look at an example so we may fully appreciate how this could work in our favor. I’ve located a property in Westminster, CO which I think would be an ideal multi-family investment property. For those of you who want to see the details and crunch the numbers for yourself click here: Westminster Fourplex
This $450,000.00 property contains four units, each 2 bed / 1 bath, 977 sq feet, and rent for approximately $944 each. The property is located in Adams County, CO which as the same limits as Denver County. Since this is a fourplex we’re authorized up to $816,050.00 for purchase but we won’t come close to those limits. This reduces our risk since we have less money on the line. You’ll notice in the property flier above, the cash-on-cash return and the cap rate look pretty good – BUT i’d like to point out that those numbers are computed assuming a 20% down payment of $90K. However, since we will be using the VA Loan and putting $0 down, we are essentially earning an infinite return on our investment! Assuming we purchase the property and live in one of the units, here’s what this looks like:
Fourplex By-The-Numbers Breakdown – Purchased As Is
As you can see in the table, if we lived in the 4th unit we’d be paying $0 out of pocket for housing and we’d be earning a monthly cash flow of $165.73, or $1,988.80 annually – Not Bad! Would you let someone else pay you $2K a year to live in a 2 bedroom townhouse? I would! And when life priorities change and you decide to move out, that fourth unit will get rented out. Sure, you’d have to pay a mortgage or rent elsewhere, but you’d be cash flowing $1,134.73 a month, or $13,616 annually!
But wait! There’s More! Recall that the VA allows the “purchase and improvement” of a property. What if we took out an additional $50K to do some kitchen improvements (granite counter tops, stainless steel appliances, etc)? We’d be on the hook for a $500K loan, but we’d be able to increase rents:
Fourplex By-The-Numbers Breakdown – $50K of Improvements
Now we’re really looking good! After improvements we were able to raise rents to $1,125.00 a month. While we’re living in the 4th unit we’re cash flowing $452.58 a month, or $5,431.00 annually. And when those life priorities change, we move out and rent the fourth unit. Now we are cash flowing $1,602.58 a month, or $19,231.00 annually….plus equity!
Is this for everyone?
NO! Do your homework, there IS risk involved! This is a buy-and-hold strategy; a long term game in which a lot can change over time. Also, many folks don’t like the idea of land lording as that is a part time job. In that case, use a property manager. Otherwise steer clear. However, for those who do their due diligence, buy smart, and work smart, the benefit can be huge!
- Tenant rents can be used as to qualifying income for the loan. Specifically, the VA will allow you to count 75% of rents as qualifying income. In the example above, that would be $ 2,124 monthly ($944*3*.75). There are some stipulations with this such as 6months cash resevers and land lording experience, but the latter may be negligible with the use of a property manager in the first year. More information: VA Lender’s Handbook See Ch.4, sect O.