VA Lenders Handbook (VA Pamphlet 26-7), Chapter 6, Topic 3 — Cash-Out Refinancing Loans

VA Pamphlet 26-7, Chapter 6, Topic 3 — Cash-Out Refinancing Loans

Effective 2024-10-30 · publisher's stamp for this provision

Topic 3. Cash-Out Refinancing Loans Change Date: October 30, 2024 This topic has been updated in its entirety. Public Law 115-174, The Economic Growth, Regulatory Relief, and Consumer Protection Act, set different requirements for cash-out refinancing loans based on the payoff amounts of the loan being refinanced. Therefore, VA has categorized cash-out refinancing loans as Type I and Type II. VA has promulgated regulations for cash-out refinancing loans at 38 C.F.R. § 36.4306. a. What is a VA Cash-Out Refinancing Loan? A VA cash-out refinancing loan is a refinance of any existing mortgage(s) and/or other indebtedness secured by a lien(s) of record. Refinancing loans made on properties without an existing mortgage or lien of record are not eligible for guarantee by VA. A cash-out refinance may also be made to refinance the following: an interim construction loan (a construction loan that does not provide for permanent financing), regardless of whether there is a change in the original loan amount, the balance of the purchase of land on which new construction is to be financed through the proceeds of the refinancing loan1, the balance of an existing land sale contract relating to the Veteran’s home or farm residence (see Chapter 7 for farm residence details)2, a loan for the purchase of, and is secured by, a manufactured home in order to purchase the lot on which the manufactured home is or will be permanently affixed. (see Chapter 7 for manufactured home detail)3, and a refinance of any other recorded lien against the property such as, but not limited to a mechanics lien, second mortgage, etc.4 There are two types of VA cash-out refinancing loans, Type I and Type II. The type of cash- out refinancing loan is determined by the payoff amount of the loan being refinanced compared to the principal amount of the new loan. The lien to be paid off is not required to be in the Veteran’s name. For instance, it could be in the spouse’s name, provided at the time of the new loan closing the Veteran is an owner. VA does not prescribe limitations for how the Veteran may use cash received from the refinancing loan. Loan proceeds beyond the amount needed to pay off the existing mortgage(s) and/or other lien(s) of record being refinanced may be taken as cash by the Veteran for any purpose. As such, VA does not require a letter of explanation detailing how the Veteran proposes to use the loan proceeds. b. What is a Type I Cash-Out Refinance Loan? A Type I cash-out refinance is a refinancing loan in which the new loan amount (including the VA funding fee) does not exceed the payoff amount of the loan being refinanced5. A Type I cash-out refinance is distinct from an IRRRL on the basis that it may be a VA- guaranteed loan or a non-VA loan that is being paid off through the refinance. c. What is a Type II Cash-Out Refinance Loan? A Type II cash-out refinance is a refinancing loan in which the new loan amount (including the VA funding fee) exceeds the payoff amount of the loan and/or lien(s) of record being refinanced. In a Type II cash-out, the Veteran may remove equity from the subject property. d. Lien Position Requirement The refinancing loan must be secured by first lien position on the property. All other lien holders must agree to subordinate to the VA refinancing loan. Copies of any subordination agreements must be included in the loan file for VA audit review.6 e. Ownership Requirement The Veteran must have ownership/title of the property securing the loan before, or at the time of closing. There is not a required length of time that the Veteran must have been on title prior to loan closing. f. Maximum Loan Term The maximum loan term of the refinancing loan may not exceed the lesser of: 30-years and 32-days7, or The economic life of the property securing the loan8. g. Maximum Loan Amount The maximum loan amount may not exceed 100 percent of the reasonable value9 (as determined by VA) of the property securing the loan. The inclusion of energy efficiency improvements up to $6,00010 and/or the VA funding fee, in part or whole, must not cause the loan to exceed 100 percent of the reasonable value. For Type I refinances: If the loan being refinanced has a fixed interest rate and the Type I cash-out refinancing loan will have an adjustable interest rate and more than one discount point is charged, the loan-to-value ratio (LTV) is limited to 90 percent of the reasonable value11. See chapter 3 for additional information on maximum loan amounts. h. Maximum Guaranty For Veterans with full entitlement, the maximum amount of guaranty entitlement available to the Veteran, for a loan amount above $144,000 is 25 percent of the loan amount12. For Veterans with partial entitlement, the maximum guaranty will be based on the total loan amount, the amount of entitlement available to the Veteran, and the one-unit Freddie Mac Conforming Loan Limit13 if the Veteran has partial entitlement (see Chapter 3 for additional information on calculating the maximum guaranty). i. Veteran’s Entitlement The Veteran must have entitlement available for the loan (see Chapter 3 for examples on calculating remaining entitlement for Veterans with partial entitlement). If the loan being refinanced is a VA-guaranteed loan, or if the Veteran has unrestored entitlement for a previous VA-guaranteed loan on the subject property, the entitlement charged to that VA-guaranteed loan may be restored for purposes of obtaining the refinancing loan. Except in cases where the Veteran has obtained a one-time restoration, which is addressed in the next paragraph. If the Veteran obtained a one-time restoration, all properties obtained using the Veteran’s entitlement must be disposed of prior to the cash-out refinance. That is, the property with the one-time restoration applied and all other properties obtained with a VA loan must be satisfied and sold for any restoration to occur, including a cash-out restoration. In these cases, if the Veteran has not sold all of the properties, they may still obtain a cash-out refinance loan; however, the amount of entitlement will be limited to the amount remaining without restoration. This includes instances where the Veteran is obtaining a cash-out refinance on the property obtained with the one-time restoration14. Transfer of the property on which a one-time restoration was applied to a spouse (to whom the Veteran is still married) or to a Limited Liability Corporation where the Veteran is a member (owner), does not meet the sale requirement for restoration. An Energy Efficient Mortgage (EEM) may be added to any cash-out loan provided it meets the program requirements without regards to entitlement availability. The EEM portion of the loan does not increase the entitlement charged to the Veteran15. j. Underwriting Full credit underwriting is required for all cash-out refinancing loan types. The underwriter must follow VA credit underwriting guidelines to ensure all borrowers are a satisfactory credit risk and have stable/reliable income for the repayment of the loan16 (see Chapter 4 for VA credit underwriting guidelines). Only lenders granted VA automatic authority by VA may close cash-out refinancing loans automatically. Lenders without VA automatic authority may close loans through the use of an agent-sponsor relationship or submit the loan to VA for underwriting and approval prior to loan closing17 (see Chapter 5 for information on how to submit a request for prior approval). For non-supervised lenders with automatic authority, only VA-approved credit underwriters may make credit-underwriting decision on VA loans. The lender must certify18 that all underwriting decisions to approve or deny a VA loan will be made by a VA-approved underwriter. The name of the VA-approved underwriter and their underwriter ID must be provided on VA Forms 26-6393, Loan Analysis, and 26-1820, Report and Certification of Loan Disbursement. k. Occupancy Requirement The Veteran must meet the occupancy requirement outlined in Chapter 3.19 l. Fees and Charges Refer to Chapter 8 for information on permissible fees and charges. Closing costs, including the VA funding fee, may be paid from loan proceeds but the loan amount may not exceed the maximum loan amount outlined in section g. Note: For Type I cash-out refinances that result in an increased principal and interest payment, the lender may not charge the Veteran loan fees, closing costs, or expenses other than taxes, amounts held in escrow, and the VA funding fee. m. Fee Recoupment Requirement (VA-to-VA, Type I only)20 Fee recoupment is the length of time it will take the Veteran to recoup certain costs necessitated by the refinance. The fee recoupment period of certain loan fees, expenses, and closing costs must not exceed 36 months. This requirement applies to Type I cash-out refinancing loans21, regardless of the interest rate and/or loan term of the new loan. Fee Recoupment Calculation The fee recoupment period is computed by dividing allowable loan fees, expenses, and closing costs, whether included in the loan amount or paid outside of closing, by the reduction of the monthly principal and interest (PI) payment. The fee recoupment period is not rounded. Example: Acceptable Fee Recoupment Description Amount Allowable loan fees/expenses/closing cost $3,250 Divided by the Monthly PI payment reduction ÷ $200 Fee Recoupment Period = 16.25 months Example: Unacceptable Fee Recoupment Description Amount Allowable loan fees/expenses/closing cost $3,250 Divided by the Monthly PI payment reduction ÷ $90 Fee Recoupment Period = 36.1 months The VA Funding Fee, escrow, and prepaid expenses, such as insurance, taxes (including Mello-Roos), special assessments, and homeowner’s association (HOA) fees, may be excluded from the calculations to meet the recoupment requirement. Lender credits and premium pricing may be used to offset allowable fees and charges. However, temporary buydown accounts and escrow accounts created to subsidize payments through an above market interest rate, or a combination of discount points and above market interest rate, are prohibited by VA. For VA purposes, such accounts are considered cash-advance on principal. If the monthly PI payment changed due to a loan modification or ARM, the monthly PI payment reduction should be computed based on the PI payment at the time of the closing of the new refinancing loan. The monthly PI payment should only include the VA-guaranteed loan even if the refinance is made to consolidate multiple mortgages on the property securing the loan. Note: If the monthly PI payment is not reduced as a result of the refinance, the lender may not charge the Veteran loan fees, closing costs, or expenses other than taxes, amounts held in escrow, and the VA funding fee. Lender credits may be subtracted from the charges made to the Veteran. Lender’s Certification The lender must ensure and certify to VA that the fee recoupment period does not exceed 36 months from the first payment due date. The lender must make the certification before or upon requesting the VA Loan Guaranty Certificate (LGC). n. Requirement to Reduce the Interest Rate (VA-to-VA, Type I only) All cash-out refinancing loans must meet a net tangible benefit requirement as discussed in section o of this chapter. Additionally, if the loan is a Type I cash-out refinance made to refinance a fixed-rate loan, the new loan must have a lower interest rate as specified below. Note for modified loans: If the interest rate on the VA-guaranteed loan being refinanced has changed due to a loan modification, the Type I cash-out refinance interest rate must be reduced based on the modified interest rate, appropriately. Fixed – Fixed22: If the existing VA-guaranteed loan being refinanced has a fixed interest rate and the Type I cash-out refinance will have a fixed interest rate, the interest rate of the cash-out refinance must be at least 0.5 percent (50 basis points) lower than the interest rate on the existing VA- guaranteed loan being refinanced. Example 1: Fixed to Fixed If the interest rate of the existing VA-guaranteed loan being refinanced is 3.75 percent (fixed), then the interest rate of the Type I cash-out refinance may not be greater than 3.25 percent (fixed). Example 2: Fixed to Fixed If the interest rate of the existing loan was modified from 3.5 percent (fixed) to 7.0 percent (fixed), then the interest rate of the Type I cash-out refinance may not be greater than 6.5 percent (fixed). Fixed – ARM (or Hybrid ARM (h-ARM))23: If the existing VA-guaranteed loan being refinanced has a fixed interest rate and the Type I cash-out refinancing loan will have an adjustable interest rate, the interest rate of the cash-out refinancing loan must be at least 2 percent (200 basis points) lower than the interest rate on the VA-guaranteed loan being refinanced. (fixed-to-ARM). Example: Fixed to ARM If the interest rate of the VA-guaranteed loan being refinanced is 3.75 percent (fixed), then the initial interest rate of the Type I cash-out refinance may not be greater than 1.75 percent (adjustable). Note: The lower interest rate of the Type I cash-out refinancing loan may not result solely from discount points. When discount points greater than one discount point are included in the loan amount, the LTV ratio of the Type I refinancing loan (fixed-to-ARM) may not exceed of 90 percent of the reasonable value of the property. ARM (or h-ARM)24 – Fixed: If the VA-guaranteed loan being refinanced has an ARM and the Type I cash-out refinancing loan will have a fixed rate, there is not a requirement to reduce the interest rate. Therefore, the interest rate may increase on these transactions. o. Net Tangible Benefit (NTB) Requirement25(Type I & Type II) The lender must provide the Veteran a NTB test demonstrating how the Veteran will benefit from the refinance. A loan that provides a NTB means that it is in the financial interest of the Veteran. Each cash-out refinancing loan must provide at least one NTB to the Veteran: If the loan being refinanced has been modified, the modified terms should be used to evaluate the NTB. If the loan being refinanced is an ARM, the interest rate and PI payment at the time of the new loan closing should be used to evaluate the NTB. If the loan being refinanced has a temporary buydown, the note interest rate and full PI payment should be used to evaluate the NTB. The NTB requirement is met if the loan satisfies at least one of the following: Example of Residual Income Calculation: Factor Without-Refinance After-Refinance Net Income* $5,750 $5,750 Debts (-) ($1,630) ($1,630) Mortgage Payment** (-) ($2,320) ($2,100) Residual Income $1,800 $2,020 * Net income is gross income net of applicable deductions. (Line 39 on VA Form 26- 6393, Loan Analysis) **Monthly principal, interest, taxes, insurance, and mortgage insurance, if applicable Note: If the monthly PI payment is scheduled to change on the loan being refinanced, due to an ARM, on or before the closing date of the proposed refinance transaction, the adjusted PI amount for the loan being refinanced must be used to determine the pre-refinance residual income. The refinance will eliminate monthly mortgage insurance, this includes the elimination of the United States Department of Agriculture Rural Development annual fee, (current mortgage statement or other document reflecting monthly mortgage insurance is required), or The loan term of the new refinancing loan is less than the loan term of the loan being refinanced (the note or other document reflecting the current loan term is required), or The interest rate of the new refinancing loan is less than the interest rate of the loan being refinanced (the note or other document reflecting the current loan term is required); or The new refinancing LTV ratio is equal to or less than 90 percent of the reasonable value of the home; or The monthly principal and interest (PI) payment of the new refinancing loan is less than the monthly PI payment of the loan being refinanced. If the monthly PI payment changed due to a loan modification or adjustable-rate mortgage, the monthly PI payment reduction should be computed based on the current monthly PI payment. The monthly PI payment should only include the first lien mortgage even if the refinance is made to consolidate multiple mortgages on the property securing the loan; or The Veteran’s monthly residual income is higher as a result of the new refinancing loan. If this NTB is utilized, the lender should compare the residual income based on the proposed loan terms with the residual income that would exist if the refinance was not completed. The refinancing of an interim loan to construct, alter, or repair the Veteran’s primary home (interim loans to construct do not include one-time construction to permanent loans that provided for permanent financing); or The Veteran’s monthly residual income is higher as a result of the new refinancing loan. If this NTB is utilized, the lender should compare the residual income based on the proposed loan terms with the residual income that would exist if the refinance was not completed. Refinance of an ARM (including h-ARM) to a fixed-rate mortgage (ARM-to-fixed) (the note or other document reflecting the amortization type is required). Note: Loans with a temporary interest buydown are not treated as ARMs for the purpose of this NTB. p. Loan Seasoning Requirement (VA-to-VA only) Loan seasoning refers to the age of the existing VA-guaranteed loan being refinanced. It applies to all cash-out refinancing loan types made to refinance a VA-guaranteed loan (VA- to-VA). For VA purposes, the loan seasoning requirement does not apply to cash-out refinancing loans made to refinance non-VA guaranteed loans and/or other indebtedness secured by liens of record. For existing VA-guaranteed loans refinanced within 1-year from the date of closing, lenders must obtain and include in the loan file a payment history/ledger documenting all payments, or a credit bureau supplement clearly identifying all payments made on the existing VA- guaranteed loan being refinanced. Lender’s Certification The lender must certify when requesting the VA LGC that six or more consecutive payments have been made on the VA-guaranteed loan being refinanced. Type I Seasoning26 The VA-guaranteed loan being refinanced must be seasoned on or before the note date of the new loan. The loan is considered seasoned when both conditions below are met: the first monthly payment due date of the VA-guaranteed loan being refinanced is 210 days or more prior to the note date of the Type I cash-out refinancing loan; and six consecutive (uninterrupted) monthly payments have been made on the VA- guaranteed loan being refinanced. To meet the six consecutive monthly payment requirement, six individual monthly payments must be made, in full, in the month in which it is due, in each of six successive months. Once the loan is seasoned, it does not need to be re-seasoned after a subsequent delinquency. Example 1: Type I Seasoning – 210 days The VA-guaranteed loan being refinanced closed on March 8, 2023. The first payment was due May 1, 2023. If six consecutive monthly payments have been made on the loan, the loan is considered seasoned on November 27, 2023. Example 2: Type I Seasoning – 6 consecutive payments The VA-guaranteed loan being refinanced closed on March 8, 2023. The first payment was due May 1, 2023. The Veteran made arrangements to pay the mortgage by submitting payments on a quarterly basis. The servicer applied the payments on a monthly basis. Even if the payments are applied in each of six simultaneous months, the Veteran does not meet the consecutive monthly payment requirement since the payments were made quarterly and not monthly. Example 3: Type I Seasoning – 6 consecutive payments The VA-guaranteed loan being refinanced closed on March 8, 2023. The first payment was due May 1, 2023. The Veteran made the May and June payments in the respective month, then missed the July payment. In August, the Veteran made both the July and August payments. The Veteran then paid the September and October payments in the respective month. Although six payments have been made, and the loan is current, the loan does not meet the seasoning requirements since six payments were not submitted in six consecutive months. Type II Seasoning27 The VA-guaranteed loan being refinanced must be seasoned on or before the note date of the new loan. The loan is considered seasoned when both conditions below are met: the date the first monthly payment was made on the VA-guaranteed loan being refinanced is 210 days or more prior to the closing date of the Type II cash-out refinancing loan; and six monthly payments have been made on the VA-guaranteed loan being refinanced (the payments do not need to be consecutive). Example: Type II Seasoning The VA-guaranteed loan being refinanced closed on March 8, 2023. The first payment was made May 7, 2023. If six monthly payments have been made on the loan, the loan is considered seasoned on December 3, 2023. q. Loan Comparison Disclosure Requirement The lender must provide an initial and final loan comparison disclosure to the Veteran28. The Veteran must certify receipt of both disclosures (i.e. signature, e-signature, email from the Veteran certifying receipt, email read receipts, system time/date stamp where the Veteran certified receipt, etc.). The loan comparison statements must be provided to VA at the time the lender requests the LGC from VA. For the purpose of completing the loan comparison disclosures, the lender should use the current terms of the loan. For example, if the existing loan was modified, the current terms of the modified loan should be reflected on the loan comparison disclosures. Both loan comparison disclosures must include the following comparisons of the loan(s) and/or lien(s) being refinanced to the cash-out refinancing loan: Payoff amount of exiting mortgage(s) and/or lien(s) being refinanced vs. refinancing loan amount, Current interest rate vs. refinancing loan interest rate, Current loan type (i.e., fixed, adjustable) vs. refinancing loan type, Remaining loan term of the existing mortgage(s) and/or lien(s) being refinanced vs. the refinancing loan term, Total the Veteran would have paid after making all scheduled monthly principal, interest, and mortgage insurance (if applicable) payments on the exiting mortgage(s) and/or lien(s) being refinanced vs. total the Veteran will pay after making all scheduled monthly principal and interest payments on the refinancing loan, and Present combined LTV of the existing mortgage(s) and/or lien(s) being refinanced vs. LTV of the refinancing loan. Initial Loan Comparison Disclosure This disclosure must be provided to the Veteran within three (3) business days from the initial loan application date. Reasonable estimates may be obtained from documents, such as, monthly mortgage statements, closing documents, online property valuation tools, and manual calculations. The terms on the initial loan comparison disclosure should match the loan estimate disclosed at the time of loan application. Although the lender must provide the initial loan comparison to the Veteran within 3 business days from the initial loan application date, the Veteran may certify receipt of the disclosure at any time. Lenders are encouraged to continually update the comparison disclosure as additional, and/or accurate information becomes available throughout the origination process. These updates should be done in the same manner they would for re-issuance of the loan estimate. Example: Initial Loan Comparison Disclosure Timing The Veteran completed/submitted the loan application to the lender on August 5, 2023. The lender must provide the initial comparison disclosure to the Veteran no later than August 8, 2023. The Veteran must certify no later than the date of closing that they received the initial comparison disclosure on or before August 8, 2023. Final Loan Comparison Disclosure This disclosure must be provided to the Veteran at loan closing. The final comparison disclosure must provide an accurate comparison of the loan/lien(s) being refinanced to the cash-out refinancing loan. The Veteran must certify receipt of the disclosure at loan closing. r. Home Equity Disclosure Requirements The lender must provide a home equity disclosure29 to the Veteran within 3 business days from the initial application date and at loan closing. The home equity disclosure must disclose the amount of home equity being removed from the home as a result of the refinance and explain how the removal of the home equity may affect the sale or refinance of the home in the future. This may be incorporated into the loan comparison disclosure. VA defines home equity as the difference between the reasonable value of the home and the amount needed to pay off all liens of record secured by the property. Example: Home Equity Disclosure The reasonable value of the home is $250,000. The refinancing loan of $250,000 will be used to pay off the first mortgage $200,000, second mortgage $25,000, and a property tax lien $8,000. There are no other liens of record secured by the property. Item Description Present Proposed 1 Reasonable Value (NOV) $250,000 $250,000 1 First Mortgage (-) $200,000 $250,000 1 Other Recorded Liens (-) $33,000 $0 1 Home Equity (A – B – C = D) $17,000 $0 In this example, $17,000 of home equity is removed from the home as a result of the refinancing loan. Home Equity Removed = Proposed Home Equity – Present Home Equity = $0 - $17,000 = ($17,000) The Veteran must certify receipt of both disclosures (i.e. signature, e-signature, email from the Veteran certifying receipt, email read receipts, system time/date stamp where the Veteran certified receipt, etc.). s. Cash-Out Refinancing Comparison Matrix Definitions for Type I and Type II Cash-Out Refinancing Loans are provided in sections a and b of this topic. Table 6: Cash-Out Refinancing Comparison Item Type I: VA-to-VA Type I: Non-VA-to-VA Type II: VA-to-VA Type II: Non-VA-to- VA Loan amount can exceed payoff (including funding fee). (Section b and c) No No Yes Yes Veteran can remove equity from the property. (Section b and c) No No Yes Yes Fee recoupment requirement. (Section m) Yes No No No Requirement to reduce the interest rate. (Section n) Yes No No No Discount point restrictions. (Section n) Yes No No No Net Tangible Benefit (NTB) requirement. (Section o) Yes Yes Yes Yes Loan seasoning. (Section p) Yes No Yes No Initial and final loan comparison disclosures. (Section q) Yes Yes Yes Yes Home equity disclosure. (Section r) Yes Yes Yes Yes 138 U.S.C. § 3710(b)(7) 238 C.F.R. § 36.4306(f) 338 C.F.R. § 36.4306(g) 438 U.S. C. § 3710(a)(5), 38 C.F.R. 36.4301 “Lien” 538 U.S. Code § 3709(d)(1) 638 U.S.C. § 3703(d)(3) 738 U.S.C. § 3703 (d)(1) 838 CFR § 36.4310(c) 938 U.S.C. § 3710(b)(7)) 1038 U.S.C. § 3710(d)(2) 1138 CFR 36.4306(b)(4)(ii) 1238 USC § 3703(a)(1)(A)(i)(IV) 1338 U.S. C. § 3703(a)(1)(C)(ii) 1438 U.S.C. § 3702(b)(1) 1538 U.S.C. § 3710(d), 38 C.F.R. 36.4302(c) 1638 C.F.R. § 36.4340, 38 U.S.C. § 3710(b)(3) 1738 U.S.C. § 3702(d)(1) 1838 C.F.R. § 363.4352(b)(3) 1938 U.S.C. § 3704(c) 2038 C.F.R. §36.4306(b)(1) 2138 CFR § 36.4306(b)(1) 2238 C.F.R. § 36.4306(b)(3) 2338 C.F.R. § 36.4306(b)(4) 2438 U.S.C. § 3710(e)(1)(A) 2538 C.F.R. § 36.4306(a)(3) 2638 U.S.C. § 3709(c) 2738 C.F.R. § 36.4306(c)(2) 2838 C.F.R. §§ 36.4306(a)(3)(ii)-(iv) 2938 C.F.R. § 36.4306(a)(3)(iii)

Source: VA Pamphlet 26-7, Chapter 6, Topic 3 — Cash-Out Refinancing Loans · source URL · snapshot ec4a9a57c8c09865