Oh, the Words You’ll Hear: Terminology for the VA Streamline Refinance
The VA’s streamline refinance option, called the IRRRL, is a fantastic opportunity for VA borrowers to take advantage of lower interest rates without costing too much. One obstacle that many borrowers face, however, is knowledge and understanding about the VA’s streamline refinance offering. In this article we’re going to go over some of the many terms that you might hear or read in connection with the IRRRL. Hopefully, after you get a solid understanding of these terms, you’ll be able to understand why getting an IRRRL is touted to be such a wonderful idea. You’ll also learn the circumstances where the IRRRL is not appropriate.
The first term we need to define is “streamline refinance”. Most people know what a refinance does, but not necessarily what a refinance is. It’s easier to understand the rest of the other terms if you first understand exactly how a refinance is defined. A mortgage is a type of loan that is secured by a real estate property (could be residential, or commercial). A refinance in the mortgage industry is when a new loan (totally separate from the existing loan) is used to pay off the existing loan and is secured by the same property. So, a refinance is a completely new loan, and as such, is usually subject to the same steps and process that a new purchase loan is. A streamline refinance is a type of refinance that is more directly related to the existing loan. In a streamline refinance, much of the underwriting information is taken from the existing loan, which speeds up the process considerably – hence the word “streamline”. In every loan program (conventional, FHA, VA), streamlines are mostly reserved for situations where most of the underwriting considerations have not changed much since the existing loan was underwritten.
Great, now we know what a streamline refinance is and does. In the VA loan program, the streamline refinance option is called the IRRRL, which stands for Interest Rate Reduction Refinance Loan. As you can probably tell from the name, the VA’s streamline refinance option is intended for borrowers who just want a lower interest rate on their mortgage. Getting a lower interest rate is good for two reasons: it saves you money over the life of the loan, and it saves you money every month because a smaller monthly payment will still be fully-amortizing.
Amortization is another word you will likely hear, both when you got your original loan, and when you get an IRRRL. This, like “refinance”, is a word that most existing homebuyers understand in context, but would likely have a hard time explaining. Understanding what amortization really means will help you make a good decision when thinking about an IRRRL. Amortization simply means paying off a debt (mortgage) over a fixed schedule. This schedule incorporates interest and calculates how much principal to add each month for the loan to be paid off at the end of the loan term. There’s a lot to say about amortization, but for you to understand the process of refinancing, you just need to know that “fully-amortizing” refers to a monthly payment that pays all of the interest owed for that month and all the principal needed to maintain the amortization schedule. In other words, if your monthly payment is $1000, and you pay at least that much (you’re not behind), then you’re making a fully-amortizing payment.
You’re also likely to hear the term EEM, or Energy Efficiency Mortgage, in conjunction with an IRRRL. An EEM is a possible add-on to your IRRRL that allows you to get an additional $6,000 to pay for energy efficient upgrades to your home (better insulation, new windows, etc.). An EEM can be great to save you money on your utility bills each month.
The terms equity, fair market value, and existing balance (also called remaining balance) may also come up. Existing balance is how much principal you still owe on the home, and fair market value is what the home can reasonably be sold for on the free market. Equity is calculated by taking the fair market value and subtracting the existing balance, and is the amount of money that would go in your pocket if you were to sell the home at the fair market value. When you’re getting an IRRRL, you are limited to the existing balance on the loan, and cannot get a loan for more than the principal still owed on the existing loan (except for the EEM and closing costs).