VA loan refinance scams and how to avoid them

Peter Warden
The Mortgage Reports editor

Beware of unsolicited offers

Unfortunately, some shady mortgage companies try to make a profit by urging homeowners to refinance — even when it’s not in their best interest.

Veteran homeowners tend to be targeted by refinance scams more often, because the VA’s lenient loan guidelines make it easier for lenders to ‘churn’ these loans and make money quickly.

The best thing you can do to avoid scammers is to be very wary of unsolicited refinance offers. Mortgage offers that come out of the blue and seem too good to be true, usually are.

If you do want to refinance your home, research loan programs and interest rates on your own and choose a reputable, transparent lender.

Check your VA loan refiance options with top lenders (May 7th, 2021)

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Signs of a VA loan refinance scam

There are a few red flags that can reveal a scammy or misleading VA refinance offer.

If you’ve been contacted by a mortgage company about refinancing, the Consumer Financial Protection Bureau (CFPB) says to look out for:

Low interest rates without specific terms

An ultra-low interest rate offer that’s not clearly accompanied by the terms of the loan is likely misleading.

A homeowner might refinance for this new interest rate, only to be surprised by higher-than-expected loan costs or unaffordable monthly payments.

There are a few ways advertised interest rates could be deceptive.

  • Surprise mortgage points. Buying mortgage points or discount points can lower your interest rate significantly. However, each point costs 1% of the loan amount (or $1,000 for every $100,000 borrowed). Some lenders advertise below-market rates without indicating the borrower will have to pay a hefty fee at closing to actually obtain that rate
  • Adjustable-rate mortgage vs. fixed-rate mortgage. Adjustable-rate mortgages (ARMs) typically have lower advertised rates than fixed-rate mortgages (FRMs). This can make an ARM look more attractive upfront. However, that low rate is subject to change after the initial fixed-rate period of 5, 7, or 10 years. This could leave the homeowner with a much higher mortgage rate and payment later on. If you’re expecting a fixed interest rate and payment, make sure the lender is not advertising an ARM rate
  • 15-year vs. 30-year mortgage. Similarly, 15-year FRMs typically have lower rates than 30-year FRMs. However, monthly mortgage payments are much higher because the loan must be paid off in half the time. Despite lower interest rates, 15-year mortgages are unaffordable for many borrowers

Any mortgage offer should include the terms of the new home loan as well as the interest rate. Look for:

  • Annual percentage rate (APR)
  • Loan term (repayment period, often 15 or 30 years)
  • Type of mortgage (ARM or FRM)
  • Mortgage points included on the advertised rate

Also remember that interest rates vary from one borrower to the next.

An advertised rate isn’t likely to be the exact rate you’re offered; that will depend on factors like your credit score and home equity.

So even if a refinance offer looks perfectly legit, you’ll need to apply with the company and get a custom rate quote to know how good of a deal it can truly offer you.

Get a VA refinance rate estimate (May 7th, 2021)

Offers to skip mortgage payments

The Department of Veterans Affairs explicitly prohibits lenders from advertising that borrowers can skip one or two mortgage payments when refinancing. A lender might list this as a benefit because there are not real benefits to your refinance; or because it wants the offer to look better than it is.

An offer that says you can skip mortgage payments when refinancing should be avoided.

Offers to receive cash from an escrow fund

Most homeowners pay their property taxes and homeowners insurance into an escrow account. Their mortgage lender stores the payments in escrow before distributing them to the insurance company and tax authority when they’re due.  

After refinancing, a homeowner might receive an escrow refund if they had cash leftover in the account at the time the new loan closes.

This is not a unique benefit of a VA mortgage, nor is it a reason to refinance.

Plus, you’ll likely need the money to fund a new escrow account on your new home loan.

Aggressive sales tactics

Borrowers should be extremely wary of lenders with aggressive sales tactics.

If a lender emails, mails, or calls you multiple times, there’s likely a reason it’s so eager to get you to refinance — because it will benefit them. It’s not necessarily good for you, though.

If you’re on a federal or state do-not-call list, remind lenders that it’s illegal to call or text you without prior consent. Do-not-call laws lead to hefty fines for any lender that violates them.

Be sure to do your due diligence before refinancing. It’s relatively quick and easy to get mortgage quotes online or over the phone from a lender of your choice.

Shop around to learn more about the terms and rates you’d really qualify for on a VA refinance loan. Odds are, the company desperate for your business is not going to be your best choice.

No-cost refinance offers

Lenders might also tempt homeowners to refinance by advertising a ‘no-closing cost’ or ‘no out-of-pocket cost’ refinance. These programs may not be what they seem.

Unlike some other loan types, VA loans do not allow refinancing homeowners to roll closing costs into their loan balance. Only the VA funding fee can be included in the loan amount; the rest of your refinance closing costs are due upfront.

It is possible to have the lender cover part or all of your closing costs. This is known as a “lender credit.”

But it’s not a free ride — in exchange for lender credits, you’ll usually pay a higher interest rate on your new loan. This could raise your mortgage costs significantly in the long run.

So, when a lender advertises no closing costs on a VA refinance, it really means you’ll increase the cost of your loan by paying higher interest for the rest of your mortgage term.

Two major VA refinance scams to look out for

There are two main VA loan refinance scams that both involve loan “churning.” That’s when lenders encourage those with VA loans to refinance when it provides little or no benefit.

This is also known as “equity stripping” or “equity skimming,” because the scammers may suck the equity out of your home, unnoticed by you because you pay nothing out-of-pocket for your refinance.

Churning is intended to line lenders’ pockets at the expense of borrowers.

Scam 1: The cash-out refinance

When you’re short of cash, you may want to dip into some of the equity you’ve built up in your home. That process is called cash-out refinancing.

For the right homeowner, a VA cash-out refinance can be a great idea. It lets you tap up to 100% of your home equity at a low interest rate.

But cash-out refinancing isn’t for everyone. Your home equity isn’t free money — and it’s important to understand the implications of a cash-out refi before jumping in. 

Refinancing means you’re resetting the clock on your mortgage. If your 30-year mortgage has 25 years left to run, for example, you’re starting over with another 30 years of payments.

And a refinance comes with closing costs. These often total 2-5% of the loan amount, which can easily add up to thousands of dollars out-of-pocket. Remember, the VA funding fee is the only closing cost that can be financed.

Scammers may try to get borrowers to refinance in this way repeatedly. But that keeps resetting the clock. And it keeps putting fees from closing costs into lenders’ pockets. So the lender profits at the borrower’s expense.

Again, cash-out refinancing can be a good strategy. But you need to make the decision on your own or with a financial advisor; not based on a lender tempting you with promises of untapped home equity.

Scam 2: The bad refinance

Generally speaking, it’s a good idea to refinance to a lower interest rate. Your monthly payments are lower. And your overall cost of borrowing falls. What’s not to like?

Well, it depends on what you have to do to get that lower rate.

Suppose you have a $300,000 mortgage at a 4.25% interest rate that you’ve been paying for five years. Your current balance is $266,170, and your principal and interest payment are $1,476.

You could lower your payment to $1,309 by refinancing without even changing the interest rate.

That’s because you’re stretching out the repayment of the remaining balance to a new term, and extending your repayment by five years.

An unscrupulous lender will refer to the $167 a month difference as “savings.” But clearly you are saving nothing — in fact, you’ll pay more in interest in the long run.

Most lenders don’t just offer to refinance your old loan at the same rate, however. They offer a lower rate — and they might even offer to do the loan at no out-of-pocket cost to you.

For instance, you might get a 3.75% mortgage rate, at a cost of three points (3 percent of your loan amount), plus other fees — perhaps a total upfront cost of $10,000.

Your new payment drops from $1,476 to $1,279, “saving” you nearly $200 a month. But the total amount of interest remaining actually increases from $158,800 to $185,300. So the “cheaper” refinance loan will cost you an extra $26,500 if you keep it the full loan term.

And if you don’t stay the full loan term? You might save month-to-month, but don’t forget: closing costs were $10,000. You’d need to keep the loan 50 months (over 4 years) just to make back the money you spent on refinancing.

Is the VA Streamline Refinance legit?

The VA Streamline Refinance (also known as the Interest Rate Reduction Refinance Loan, or IRRRL) is a legitimate refinance program backed by the U.S. Department of Veterans Affairs.

The IRRRL program is meant to make refinancing simpler and more affordable for veterans and service members. It has lenient documentation requirements and no new home appraisal.

But although it’s a safe program on its own, the Streamline Refinance is sometimes the vehicle for VA mortgage scams. And you can see why.

The VA wanted to make refinancing from one VA loan to a new VA loan cheap, easy, and straightforward. It eased up on many bureaucratic procedures, which is helpful for borrowers but may have left IRRRLs more vulnerable to abuse.

Since these loans are easier to approve and often close faster than traditional refinances, VA Streamline refis are more attractive to scam lenders intent on “churning” loans to turn a profit.

However, that doesn’t mean a VA Streamline Refinance can’t give you a fantastic deal. They typically do. It just means you need to choose your lender with care.

As with any refinance loan, make sure you compare IRRRL offers from multiple lenders to see which can offer the best deal. And use care when comparing rates — just because you can drop your rate, doesn’t mean you’ll save money in the long run.

Compare loan fees and total interest costs on your IRRRL offers to make sure the loan really benefits you.

Check your VA Streamline Refinance options (May 7th, 2021)

When is a VA loan refinance a good idea?

We just described a number of ways refinancing can have a negative impact on homeowners. But these warnings are not intended to scare you away from refinancing.

Rather, these examples should illustrate how important it is to fully understand a refinance offer before signing it. You should be aware of both the short- and long-term costs, and feel confident the new loan benefits you.  

When done right, refinancing isn’t just worthwhile — it can save you huge amount of money. Refinancing can also help you access home equity to cover important expenses, like home renovations, consolidating debt, or paying college tuition.

The trick is to refinance only when the outcome meets your financial goals.

Often, that means refinancing for a low enough interest rate that you’ll save money on monthly mortgage payments and total interest costs.  

But that’s not always the case.

If your income has been reduced and you need to save money each month, it might make sense to refinance for a lower monthly payment even if your long-term cost is a bit higher.

On the flip side, it might make sense to accept higher monthly payments if your goal is to shorten your loan term and pay off the home early.

Or maybe you want cash out. In that case, your new interest rate might not be ultra-low. But that shouldn’t matter as much.

There are many different scenarios where it makes sense to refinance. But in every case, it needs to be a personal decision based on your current mortgage and your long-term goals.

If you’re not sure whether a refinance is a good decision, talk to a trusted financial advisor or contact a reputable mortgage lender that can walk you through your options and help you decide what the right move is.

Verify your VA loan refinance eligibility (May 7th, 2021)

How to find a safe VA loan refinance

VA homeowners have two main refinance options: the VA Streamline Refinance (IRRRL) and the VA cash-out refinance.

The right refinance loan for you depends on your goals.

  • If you simply want to lower your interest rate and monthly payment, the IRRRL is generally the best option. There’s no reason to take cash out from your home equity if you don’t need it for a specific purpose — and no lender should urge you to cash-out if you don’t need to
  • If you do need to tap your home equity, you’ll apply for the VA cash-out refinance. The Streamline program does not allow homeowners to receive cash at closing

The VA cash-out program can also help veterans and service members with non-VA loans refinance into a VA home loan.

For example, a homeowner with an FHA loan who has VA loan eligibility could use the cash-out program to switch loan types without actually taking cash out.

To find the best deal on your refinance loan, you should apply with at least three lenders and compare their offers.

You can do this on your own by applying to lenders individually. Or, you can work with a mortgage broker who will help you understand your loan options and find the best lender for your needs.

The vast majority of mortgage lenders are decent companies — scammers are in the minority. But you still need to look at multiple companies to be sure you’re getting the best deal.

Start with well-known lenders that get positive customer reviews. If you have friends or family members who have refinanced a VA loan in the past and had a good experience, it’s also worth asking them for recommendations.

How to compare VA refinance offers

After you apply with a few lenders, you need to make sure the “Loan Estimates” they send you compare with their initial offers.

Loan Estimates are standard documents detailing your loan offers; including your approved interest rate, loan amount, loan type, and loan terms.

Lenders are required to send you an Estimate after you apply, and they shouldn’t change anything without a good reason, which must be explained to you.

Later, at least three days before you close, you’ll get a “Closing Disclosure” that sets out all the terms of your new mortgage in an easy-to-understand format. That’s your last chance to make sure you’re getting the deal you want — and the one you were promised — without derailing your refinance.

A mortgage loan is not binding until you’ve signed your final closing papers. If anything looks amiss before that point, you have the right to bring it up with your lender or simply walk away.

As the borrower and homeowner, the power in the transaction is in your hands.

What are today’s VA refinance rates?

Mortgage rates are very low right now, and VA loan rates are generally the lowest of any loan type.

If you think a refinance is the right move for you, check today’s rates to see how much you could potentially save.

Remember, mortgage rates vary by lender and by borrower, so you need to shop around to find your best offer.

Verify your new rate (May 7th, 2021)