Marcus Marion, CMA™ The Department of Veterans Affairs has specific requirements relating to VA home loan, and one of those requirements relates to what’s known as “residual income.”
The short version: Borrowers who use a VA loan to buy a house should have some money left each month after their mortgage payment and other recurring debts. However, the amount they need can vary based on geographical location and family size, with plenty of leeway.
Here’s what borrowers should know about requirements for VA residual income.
What Is ‘Residual Income’ Exactly?
You already know what income is, so let’s talk about the word “residual.”
The dictionary defines residual as “what remains after most of something is gone.” In other words, it’s another way to describe something left over after a usage or depletion.
When it comes to mortgage loan qualification—and the VA loan program in particular— residual income refers to the money that a person has left over each month after paying all of their bills.
In their “VA Pamphlet 26-7,” which serves as the official handbook for mortgage lenders, the Department of Veterans Affairs states the following:
“Residual income is the amount of net income remaining (after deduction of debts and obligations and monthly shelter expenses) to cover family living expenses such as food, health care, clothing, and gasoline.”
If a person has a net income of $6,000 per month and spends $3,500 on all recurring debts (including the mortgage payment), the residual or leftover income would equal $2,500. This is the money they could use for their other living expenses, such as groceries, clothing, etc.
So, why does the Department of Veterans Affairs require residual income for VA loans? They want to make sure that borrowers only get approved for a mortgage amount that they can comfortably afford to repay.
This, in turn, helps to reduce the risk of financial hardship and foreclosure. In short, residual income is a common-sense home loan requirement that benefits all parties involved.
Why Does Residual Income Matter for VA Loans?
The VA loan entitlement procedure depends heavily on residual income for several reasons:
1. Financial Stability Assessment
Financial stability assessment aims to examine the debt service capability of mortgage payment combined with living expenses necessities without financial burden. It provides that their VA mortgage loan applicants have a nonexpenditure income remaining after their monthly debt obligations are finalized.
This decreases the chances of default. Lenders examine this evaluation to judge the creditworthiness of the customer and the probability of the regular payments’ timely receipt. Through VA loans prioritizing financial stability, this VA promotes prudent lending practices, contributing to sustainable homemaking for veterans and military personnel.
2. Risk Mitigation
Risk mitigation in VA loans includes cash flow analysis used to check remaining income and lessen the chance of default. Lenders are likely to approve loans to borrowers who have a manageable margin between their income and expenditure, so the chances of default will be reduced. Therefore, the active stance of potential borrowers and lenders helps stabilize the housing market.
VA home loan application is made accountable for lending in the first place by the VA loan goals in the loan approval processes, which incorporate residual income into the considerations. This will be a reminder that veterans and military personnel will get fair treatment in front of banks and, therefore, can become homeowners without the financial difficulties they initially had.
3. Duty of Care
VA loaning duty to care requires those involved not to be responsible for the veterans and military personnel with mortgage loans they cannot afford. The U.S. Department of Veterans Affairs (VA) put into place rules and regulations that protect the financial health of all veterans. The provision of residual income affirmation is one of the ways the VA assures the overall sustainability of its lending operation.
This dedication is furthered by the promotion of sustainable homeownership and the ability to prevent service members and their families from being subjected to financial pressures. The existence of the VA loans reflects the country’s obligation to recognize the contributions of those in the military.
The Amount Depends on Location and Family Size
The next logical question is: How much residual income does a borrower actually need in order to qualify for a VA-backed mortgage loan?
Residual income requirements for VA loans vary based on location and the size of the family. Depending on these variables, it can range from around $450 to just over $1,000 per month.
The remaining income criteria for VA loans vary depending on loan size. One set applies to borrowers who obtain financing for $79,999 or less, while the second set applies to loan amounts of $80,000 or above.
This table shows the residual income guidelines for smaller loan amounts:
The second table shows the guidelines for loans of $80,000 and up (i.e., most borrowers):
But there are exceptions to these general rules. For instance, a borrower who falls short of the residual income requirement but has excellent credit could still qualify for a VA loan.
This is what the Department of Veterans Affairs refers to as “compensating factors.” So, let’s shift gears now and look at some of those compensating factors.
How Do You Calculate Residual Income?
The VA has created a consistent technique for calculating VA loan residual income. There are three primary steps involved:
Step 1: Calculating Your Monthly Salary
The borrower’s gross monthly income, which includes all sources of income, including salary, bonuses, retirement benefits, and disability compensation, must be determined in the first instance. This is a starting point for evaluating financial capability.
Step 2: Monthly Debt Deduction
Lenders then deduct the borrower’s gross monthly income from the total amount of monthly loans. Mortgage payments, credit card bills, vehicle loans, school loans, and other ongoing financial commitments are examples of debts.
Step 3: Evaluation of Remaining Income
The amount left over after monthly debt payments is subtracted from gross monthly income, which is known as residual income. The VA determines minimal residual income requirements depending on a number of variables, including loan amount, geography, and size of family.
Exceptions and Compensating Factors
The tables shown above represent general guidelines for mortgage lenders. So, those numbers are flexible.
The Department of Veterans Affairs gives mortgage lenders some flexibility when it comes to residual income for borrowers seeking a VA loan. They allow for sure compensating factors for situations where a person’s residual income is slightly lower than the ideal range.
As it states in the official guidelines:
“VA’s minimum residual incomes (balance available for family support) are a guide. They should not automatically trigger approval or rejection of a loan. Instead, consider residual income in conjunction with all other credit factors.”
The “other credit factors” mentioned in this quote include everything from the borrower’s credit score to their history of debt repayments. The point is that mortgage lenders make approval decisions based on a bigger picture rather than a single qualifying factor.
According to the Department of Veterans Affairs, mortgage lenders can consider the VA loan residual income following compensating factors for VA loan borrowers with a less-than-ideal level of residual income.
- excellent credit history
- long-term stable employment
- significant liquid assets
- conservative use of consumer credit,
- minimal consumer debt,
- sizable down payment (even when a down payment is not required)
- previous success as a homeowner
But the lender doesn’t necessarily have to check all of these boxes. A borrower with just one of these compensating factors could potentially qualify for a VA loan, even if their residual income falls below the guidelines mentioned earlier.
Also, remember that residual income is just one of several VA underwriting guidelines and requirements for a VA-backed mortgage loan. When applying for this program, you will also need to provide a variety of documents such as the Certificate of Eligibility (COE), bank statements, tax returns, and other financial information.
Even so, the benefits of this program can far outweigh the administrative and document-related hurdles you have to clear. When using a VA loan to buy a house, you can finance the entire purchase price without having to pay for mortgage insurance.
You won’t find another mortgage product or program that offers the many overlapping benefits provided by a VA loan.
Conclusion
Residual income represents one of the essential elements of the VA loan appraisal, which evaluates the consumers’ financial health and provides sufficient capacity for homeownership.
By being aware of residual income requirements and taking preventive action to enhance their financial position, veterans and military members can improve their chances of qualifying for a VA loan and, therefore, achieve the dream of homeownership.
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