How to Refinance a Government-Backed Mortgage

What Are Government Refinance Programs?

Government refinance programs allow you to refinance government-backed mortgages—including FHA loans, USDA loans and VA loans. Because the refinance loan is backed by a government agency, they often offer borrower-friendly features, such as streamlined underwriting. Your options typically depend on your current mortgage and what you're looking to do.

VA loans

VA loans are guaranteed by the U.S. Department of Veterans Affairs and are available to military service members, veterans and eligible surviving spouses. These mortgages don't require a down payment or mortgage insurance, though borrowers must pay a funding fee at closing. Borrowers have three main options when refinancing a VA loan:

• VA interest rate reduction refinance loans (IRRRLs) offer a simplified underwriting process for borrowers with an existing VA loan. You won't need to go through a home appraisal, show income paperwork or undergo a credit review. But your new interest rate must be lower than what you currently pay, unless you have an adjustable-rate mortgage (ARM).
• VA cash-out refinances make it possible to borrow more than you owe and pocket the difference as cash. The VA allows you to borrow up to 100% of the appraised value of your home, though lenders may set a different limit. You'll need an appraisal and a credit check when you apply for the VA cash-out refinance.

USDA loans

The U.S. Department of Agriculture guarantees USDA loans, which are available to low-income borrowers purchasing homes in designated rural areas. The USDA doesn't offer a cash-out refinance, but borrowers have three other refinance options. All three require you to have an existing USDA loan and live in the home as your primary residence.

• USDA streamline assist refinance loans offer a simplified underwriting process with no home appraisal or credit review as long as you're up-to-date on your mortgage payments. However, the refinance will need to provide you with a "net tangible benefit" where you save at least $50 a month.
• USDA streamline refinance loans do come with a credit and debt-to-income ratio (DTI) review. But you aren't required to show that you benefit from the refinance, and there's no home appraisal in most cases.
• USDA rate-and-term refinances allow you to take out a new USDA mortgage with a new term, interest rate or both. You'll need to go through a credit check and pay for a new appraisal.

FHA loans

FHA loans are backed by the Federal Housing Administration and come with flexible lending criteria. A borrower may qualify with a credit score of at least 580 and a 3.5% down payment. With at least 10% down, it's possible to qualify with a credit score as low as 500. Borrowers have three main ways to refinance:

• FHA streamline refinances are designed to help borrowers quickly refinance their existing FHA loans. If you choose the non-credit-qualifying option, you won't need to provide pay stubs or tax forms to verify your income, go through a lengthy credit review or pay for a home appraisal.
• FHA rate-and-term refinances allow you to take out a new FHA home loan, up to 97.75% of your home's value, with a new interest rate and loan term. These loans require income verification, a credit check and a home appraisal.
• FHA cash-out refinances allow you to borrow more than you currently owe and keep the difference in cash. You can borrow up to 80% of your home's value.

Seasoning a Government-Backed Home Loan

When you take out a government-backed home loan, you may need to wait a certain amount of time before refinancing. This time frame is known as a seasoning period. The length of the seasoning period is different for each type of loan:

• VA loans: After making the first payment on your VA loan, you'll need to wait at least 210 days before applying for an IRRRL. You'll also need to wait 210 days before applying for a VA cash-out refinance, but the seasoning period starts at your closing date.
• FHA loans: Before applying for an FHA streamline refinance, you'll need to make at least six payments on your current loan and wait at least 210 days from the closing date. FHA cash-out refinances also require you to make at least six payments on your current loan.
• USDA loan: All borrowers must wait at least 12 months before refinancing into a new USDA loan.

How to Refinance a Government-Backed Mortgage With a Conventional Loan

If you have a government-backed loan through the FHA, VA or USDA, it's possible to refinance the loan into a conventional mortgage. There's no defined seasoning period to convert a government-backed mortgage to a conventional home loan, but you'll need to meet the lending standards. These typically include:

• A minimum credit score of 620
• At least 3% equity in your property
• A DTI of 45% or less
• Proof of income and employment

While some government-backed refinance loans are quicker and have fewer underwriting requirements, there are some cases in which a conventional loan may better fit your situation.

For instance, when you put down less than 10% on an FHA loan, you'll pay mortgage insurance for the life of the loan. Refinancing from an FHA loan into a conventional loan allows you to get rid of mortgage insurance once you reach more than 20% equity in your home.

If you think you'll move forward with a conventional loan refinance, then your lender will likely do a full underwriting review. You'll need to go through a credit check, home appraisal and employment verification. If you're approved, you'll sign the loan paperwork. The lender will take the loan funds and pay down your current mortgage, and you'll repay the conventional loan over time.

How to Know if You Should Refinance Your Mortgage

Replacing your home loan with a new one could make sense in some cases. But because you'll spend time and money on the process, you'll want to consider the decision carefully.

Here's what to go over when deciding whether to refinance:

• Mortgage rates: Compare your current interest rate to prevailing market rates, and ask a few lenders to give you a rate quote. If interest rates have dropped recently or your credit score has improved since taking out your current home loan, then refinancing may help you save money.
• Your financial goals: Are you looking to reduce your monthly mortgage payments, pay off your loan faster or tap into your home equity? Your objectives will guide your decision and help you choose the right refinance program.
• How long you plan to stay in the home: Go over the costs associated with refinancing, including closing fees, and calculate your break-even point to ensure you'll benefit from refinancing.

The Bottom Line

It's possible to refinance a government-backed mortgage, whether you're looking to borrow money, lower your monthly payments or switch to a fixed-rate loan. You can refinance into a conventional loan or use a government refinance program.

For many refinance programs, you'll need strong credit to qualify for the home loan and receive a good interest rate. Get your free credit report and credit score from Experian to see where you stand.