Refinancing From an FHA Loan to a VA Loan: How to Get Rid of FHA Mortgage Insurance

I talk to a lot of veterans who bought with an FHA loan. Sometimes a lender steered them that way, sometimes they didn't have their COE yet, and sometimes they just didn't know VA was an option. Years later they're still paying FHA mortgage insurance every month. If that's you, a refinance into a VA loan can often get rid of it for good.

Why FHA borrowers end up stuck with MIP

Most FHA loans made today come with an annual mortgage insurance premium, paid monthly, and for most people it never goes away. If you put less than 10% down, FHA's annual MIP lasts for the life of the loan. Put 10% or more down and it drops off after 11 years. On most loans the rate is 0.50% to 0.55% of the balance per year.

On a $310,000 balance at 0.55%, that's about $142 a month. Paying down the loan or watching your value go up doesn't change that. The usual ways out are selling, paying the loan off, or refinancing into something without it.

VA loans don't have monthly mortgage insurance. That's the whole reason this refinance exists.

How the refinance works

You can't use a VA IRRRL here. The IRRRL only refinances an existing VA loan. To go from FHA to VA, you use a VA cash-out refinance. The name throws people off, because you don't have to take any cash. VA uses this program for any refinance of a non-VA loan into a VA loan.

VA splits these into two types. A Type I is when the new loan, funding fee included, isn't bigger than what you owe now. A Type II is when it's bigger, which happens as soon as you roll in closing costs or the funding fee, or take cash. Most FHA-to-VA refinances I close end up as Type II for that reason. Either way, it's the same basic process.

What you need to qualify

• Your Certificate of Eligibility. Your COE shows you have VA entitlement. I can usually pull it for you in a few minutes.
• You live in the home. A VA cash-out refinance requires that the home is your primary residence. If you've moved out and rent it, this won't work.
• Credit and income. This is a fully underwritten loan, so expect pay stubs, W-2s and a credit pull. VA also looks at residual income, not just your debt-to-income ratio. I can go down to a 500 credit score on VA, which helps a lot of people who chose FHA in the first place because of credit.
• Enough equity. VA lets the new loan go up to 100% of the appraised value, funding fee included. If the fee would push you over 100%, that part has to be paid in cash at closing.
• A VA appraisal. The appraiser checks value and VA's minimum property requirements. Things like peeling paint on an older home, a bad roof or a broken water heater may need to be fixed before closing.

One thing you don't need is the seasoning period people hear about with VA refinances. VA's rule of 210 days and six payments applies when the loan being paid off is a VA loan. When you're paying off an FHA loan, VA doesn't add that wait, though some lenders have their own minimums.

The net tangible benefit test

VA requires every cash-out refinance to pass a net tangible benefit test. That just means the new loan has to help you in at least one way VA lists. Getting rid of monthly mortgage insurance is one of them, so FHA-to-VA refinances usually pass easily. Other ways to pass include a lower rate, a lower payment, a shorter term or switching from an adjustable rate to a fixed rate.

You'll also get a side-by-side comparison of your old loan and the new one, plus an estimate of how much equity the refinance uses up. VA requires those within three business days of your application and again at closing. Read them. They're actually useful.

What it costs, and why the funding fee matters so much

You'll have normal closing costs like the appraisal, title, lender fees and prepaids for escrow. The big variable is the VA funding fee. On a VA cash-out refinance it's 2.15% of the loan amount the first time you use your benefit and 3.3% if you've used it before. A down payment doesn't lower it on a refinance.

The fee is waived if you receive VA disability compensation. It's also waived if you're eligible for compensation but get retirement or active-duty pay instead, and for a few other groups like surviving spouses getting DIC. If you're exempt, this refinance gets a lot more attractive.

Two more things FHA borrowers ask about:

• Your FHA upfront premium refund. FHA only credits part of your upfront MIP back if you refinance into another FHA loan within three years. Moving to VA doesn't get you that refund.
• Prepayment penalties. FHA loans don't have them, so paying the old loan off early isn't a problem.

Two real-world examples

Exempt veteran. A veteran with a 30% disability rating owes $310,000 on an FHA loan and pays about $142 a month in MIP. The home appraises at $400,000. Say closing costs come to $5,000 and get rolled in. There's no funding fee. Even with no change in rate, dropping the MIP saves about $142 a month, minus a little extra principal and interest on the bigger balance. That pays back in roughly three years, and a lower rate makes it faster.

Not exempt, first use. Same loan, but this veteran pays the funding fee. At 2.15% on a loan around $318,000, that's about $6,800 on top of the $5,000 in costs. Now it takes about seven years for the MIP savings alone to cover it. That can still make sense if you're staying put and the rate also comes down, but it's not a slam dunk. This is where I'd rather tell you to wait than sell you a refinance.

How I decide if it's worth it

1. Look at your current MIP. Your mortgage statement or escrow analysis shows it. If you put 10% or more down and you're close to the 11-year mark, it may drop off soon on its own.
2. Compare the whole payment. Principal, interest and mortgage insurance on the FHA loan against principal and interest on the VA loan. Taxes and insurance usually stay about the same.
3. Figure the break-even. Total costs divided by monthly savings. VA's 36-month recoupment rule doesn't apply to refinancing an FHA loan, but I run the math anyway because you should know the number.
4. Be honest about how long you'll stay. If you might sell in two years, a seven-year break-even loses money.
5. Check the term. Going back to a fresh 30-year loan lowers the payment but adds years of interest. I'll quote it both ways if you want.

My VA refinance calculator gives you a quick break-even estimate.

What about conventional loans with PMI?

The same VA cash-out refinance works for a conventional loan too. But conventional PMI usually isn't permanent. You can generally ask to cancel it once you reach 80% of the home's original value, and it ends automatically at 78% if you're current on payments. If you're close to that point, a VA refinance just to drop PMI may not be worth it. FHA MIP is different because for most people it doesn't go away.

Bottom line

If you have VA eligibility and you're still paying FHA mortgage insurance, it's worth running the numbers. It's an easy call when you're exempt from the funding fee. If you're not exempt, it comes down to the break-even and how long you plan to stay. Send me your mortgage statement and I'll tell you which one you are.

Frequently asked questions

This article is general education, not financial, legal or tax advice, and it is not a commitment to lend. Program rules change; all loans are subject to credit approval, underwriting and program eligibility, and not all borrowers will qualify.