March 16th, 2020 9:40 AM by Jackie A. Graves, President
At first glance the definition of a loan guarantee is fairly
straightforward. It means a loan, any type of loan, has a guarantee for the
applicant. “Apply for this loan and we’ll guarantee you’ll get approved!” It’s
easy to misconstrue the true meaning of a loan guarantee as it relates to
mortgages. There are guarantees, just not the type of guarantee an applicant
Mortgages that are guaranteed fall into the government-backed
category. A government-backed loan does have a degree of guarantee, but the
guarantee is in favor of the lender, not the borrower. There are definite
advantages for borrowers who qualify for a government-backed loan, but the
recipient of the guarantee is the mortgage company issuing the loan.
There are three such national government-backed mortgages, VA,
FHA and the USDA program. VA loans are reserved for veterans of the armed
forces, active duty personnel with more than 180 days of service, National
Guard and Armed Forces Reserve members and unremarried surviving spouses of
those who have died while serving or as a result of a service-related injury.
VA loans do not require a down payment nor a monthly mortgage insurance premium
while still having some very competitive rates. Note, the VA doesn’t issue the
mortgage, just provides guidelines lenders follow in order to obtain the loan
With the VA loan, should the loan ever go into default (which is
rare for VA loans, btw) the lender is compensated at 25 percent of the loss.
This guarantee is financed by what is referred to as the Funding Fee. This fee
can vary but for first time buyers with no down payment, the funding fee for
2020 and going forward is 2.30 percent of the loan amount. This fee is rolled
into the final loan amount and does not have to be paid for out of pocket.
FHA loans also have a guarantee to the lender. FHA loans ask for
a down payment of at least 3.5 percent of the sales price. The guarantee is
financed by two separate forms of mortgage insurance, an upfront policy rolled
into the loan amount and an annual policy paid in monthly installments. With
the FHA loan, the guarantee applies to the entire defaulted loan amount, unlike
the VA guarantee of 25 percent. Again, the Federal Housing Administration does
not handle an FHA loan application but provides guidelines lenders follow.
There are no requirements of the applicants other than qualifying for the loan
based upon income, credit, debt and other factors. Anyone can apply for an FHA
loan. And because the down payment is only 3.5 percent, it’s very popular with
first time homebuyers.
USDA loans contain guidelines issued by the United States
Department of Agriculture. It might seem a bit out of place for the Department
of Agriculture to have anything to do with home loans whatsoever. Yet the
program was and is still today designed to help buyers finance properties in
rural areas where conventional financing might be more difficult to find. The
USDA keeps a database showing eligible areas. USDA loans also have household
income limitations. Your loan officer can provide the details.
Like the VA program, the USDA loan doesn’t need a down payment.
Like the FHA program, the guarantee is financed by two separate mortgage
insurance policies, a one-time upfront premium equal to 1 percent of the loan
amount and an annual policy at 0.35 percent of the outstanding loan balance. In
case of default, the lender is compensated for the loss.
Government-backed guarantees allow buyers to obtain competitive
financing with less cash to close compared to similar conventional low-down
programs. These guarantees also allow lenders to approve loans that might
otherwise be turned down. As long as the lender follows the proper guidelines,
the guarantee will be in place.
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