When you want to apply for a mortgage, there are many things to decide. One of them is whether you want to get a government loan, which means it is backed by a US government entity. Or, you can obtain a conventional mortgage that adheres to Fannie Mae and Freddie Mac guidelines. Many people get a government-backed mortgage because they are easier to qualify for, among other reasons.
If you have debt, you may wonder if you can get a government loan to pay off your debt. Yes! If you qualify, you can get various types of government mortgages to pay off your debt.
How People Are Using Government Loans to Pay Off Debt and Loans
A government-backed mortgage is a type of government loan that is guaranteed by a federal agency.
You may qualify for a home loan backed by the FHA, USDA, or VA, most commonly.
Keep reading to find out more, then speak to our loan advisors for more information.
What Is a Government-Backed Mortgage?
These are not direct loans, meaning, you don’t apply to the government agency for a loan. Instead, you apply for the loan through a mortgage lender that offers loans backed by the FHA, USDA, or VA. If you don’t pay the mortgage, the agency pays part of the principal back to the lender.
For this reason, lenders are more willing to lend to people with credit and financial challenges with government backed mortgages.
On the other hand, a conventional mortgage is not backed by a US government agency. Conventional loans are generally more difficult to be approved for, at least with the most competitive rates.
Types of Government Loans to Pay Off Debt
There are three major government agencies that back mortgages: FHA, USDA, and VA:
FHA Financing
FHA loans are the most popular government-backed home loans in the US. You can qualify for an FHA mortgage with a 580 credit score any provide a 3.5% down payment. The interest rates for these loans are competitive with market rates. You usually need a 43% debt to income ratio (DTI), but some people with larger down payments and better credit can qualify for up to 50%. In many cases, FHA is a good second chance loan for people looking to consolidate debt.
Once you have an FHA mortgage, you have the option of doing a cash-out refinance after you have at least 20% equity in the home. You may want to do a cash-out refinance if you have a higher rate than current market rates. Generally, if you can save ½ a percent on your interest rate, you may want to get a cash-out refinance.
If you qualify, you may pull cash out of your home up to 80% or 85% of what you owe, including what is owed on your first mortgage.
You can use that cash to pay off credit cards and other debt, if you like. However, note that you are putting your home at risk, so make sure that you can afford the payment. You may have a lower rate, but if you took out tens of thousands of dollars, your new payment could be higher.
You also can consider getting an second mortgage with an FHA loan, such as a home equity line of credit or home equity loan. A HELOC is a second mortgage line of credit that allows you to borrow up to 80% or 85% of your home’s value. The interest rate is variable, and you pay interest only during the 10-year draw period.
Many homeowners opt for government loan with second mortgage so they can pay off debt without touching their first mortgage. A HELOC is often best for people who want to pull out cash over time; you don’t need to pay interest on the money until you take it out.
If you want to pay off debt all at once and like a more predictable payment, a home equity loan may be better. This is a fixed-rate loan that gives you a lump of cash to pay off debt at one time. The rate for a home equity loan is higher than a HELOC, but the payment is stable. A HELOC’s rate can go up or down, which can be a concern in a rising interest rate environment.
Overall, FHA mortgages are relatively easy to qualify for even with below average credit. That is what makes them so popular. Talk to one of our loan professionals about qualifying for an FHA first mortgage or second mortgage today!
USDA Financing
USDA loans are for those with lower incomes in rural areas. USDA mortgages usually have lower rates than conventional loans. You don’t need a down payment and while there is no minimum credit score, 640 is typical across many lenders. DTI maximum is usually 41%.
This loan can be a good choice if you are a lower income American and want to buy a home in a rural location. However, you cannot do a cash-out refinance or second mortgage with the USDA program, so you will need to choose another option to get cash to pay off debt. However, USDA does offer simple refinance programs if you want to lower your rate.
VA Financing
If you are a current or former military member, you may want to check out the VA loan program. These loans can be done with 100% financing and no mortgage insurance is required.
If you do a VA cash-out refinance you can borrow up to 90% of your home’s value, which is more than most programs. The VA program may allow you to pay off more debt so it is worth considering if you are in the military. However, VA does not offer a second mortgage of its own. But you can do a non-VA second mortgage, if you qualify, to get the debt relief you need.
Are Government Loans Good for Paying Off Debt?
If you want to get a government-backed loan to pay off debt, you have options. The FHA and VA programs offer cash-out refinances that may allow you to pay off your debts. USDA loans do not offer these options but USDA loans are still a great choice for a rural purchase for lower income borrowers. Talk to one of our loan professionals today if you want to tap some of your equity with a government loan to pay off debt!
About Tom
Tom Murphy grew up in La Jolla, California surfing and carving his niche in the local real estate market. Mr Murphy has a stellar record as a loan officer with over a decade of experience helping people secure the right home loan. He now works at Movement Mortgage in Carlsbad CA. NMLS # 662141
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