Type I vs Type II VA Cash-Out Refinance: Key Differences, Rules, and Examples

If you are a veteran or service member looking to refinance your home in 2026, you may have encountered the terms Type I and Type II cash-out refinances. While the VA officially groups all non-streamline refinances under the Cash-Out umbrella, these two categories dictate exactly how much you can borrow, fees paid, and how much cash—if any—lands in your pocket at the end of the day.

Key Takeaway

In 2026, VA cash-out refinances are strictly divided by how the new loan amount compares to current debt. Type I refinance is a “rate-and-term” style loan where the new balance only covers your existing payoff and closing costs, resulting in no cash-to-hand. On the flip side,  Type II refinancing is a “true” cash-out exceeding your current payoff, allowing one to tap into home equity for liquid funds. While both require full underwriting and appraisals, Type I loans face stricter 36-month cost recoupment rules, whereas Type II loans offer greater flexibility for debt consolidation and home improvements.

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1. What is a VA cash-out refinance and why does “Type I vs Type II” matter?

VA cash-out refinance is a loan replacing your existing mortgage with a new VA-backed loan, potentially allowing you to access your home’s equity as liquid cash. The distinction between Type I and Type II matters because it determines the regulatory “hoops” your lender must jump through regarding loan seasoning, fee recoupment, and the Net Tangible Benefit (NTB) test.

In short:

1. Type I is a “limited” refinance where you aren’t actually taking extra cash out.
2. Type II is a “true” cash-out refinance where your new loan is larger than your old debt, giving you cash in hand.

Understanding these types helps understand if your loan is legally required to lower your interest rate, how fast you must break even on closing costs, and whether you are eligible to consolidate other debts.

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2. What is a Type I VA cash-out refinance?

A Type I VA cash-out refinance occurs when the total amount of your new VA loan is less than or equal to the payoff amount of your existing mortgage plus allowable closing costs. Even though it is technically called a “cash-out” loan, you do not actually receive any cash back at closing.

A. Characteristics of Type I

• No Net Proceeds: The borrower receives $0 (or a very nominal amount due to minor math adjustments) at the closing table.
• Purpose: Generally administered to refinance a non-VA loan (like a high-interest conventional loan) into a VA loan to improve the rate or term without tapping equity.
• Strict Recoupment: If you’re refinancing an existing VA loan into a Type I, you must meet the 36-month recoupment rule, meaning the monthly savings must pay for the closing costs within three years.

B. Numeric Example: Type I

• Existing Loan Balance: $200,000
• Allowable Closing Costs: $6,000
• New VA Loan Amount: $206,000
• Result: The new loan pays off the old one and covers the costs. The veteran receives $0 cash back.

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3. What is a Type II VA cash-out refinance?

A Type II VA cash-out refinance is a loan where the new principal balance exceeds the payoff amount of the existing loan plus costs. This is the “true” cash-out option most veterans are looking for when they want to pay off debt or renovate their homes.

A. Characteristics of Type II

• Cash in Hand: Borrower receives a check or wire transfer at closing for the difference between the new loan and the old debt.
• Flexible Use: Funds can be used for debt consolidation, home repairs, education, or emergency savings.
• Net Tangible Benefit: The lender must prove the loan provides a benefit, such as eliminating mortgage insurance (PMI) or increasing your monthly residual income.

B. Numeric Example: Type II

• Home Value: $400,000
• Existing Payoff: $200,000
• New VA Loan (90% LTV): $360,000
• Closing Costs & Fees: $10,000
• Net Cash to Borrower: $150,000 ($360k – $200k – $10k).

4. How do payoff limits and loan-to-value (LTV) rules differ?

The biggest difference between these two types lies in how much of your home’s value you are allowed to “use” for the loan.

*Note: While the VA allows 100% LTV, many lenders in 2026 cap Type II loans at 90% for safety.

5. How do seasoning and recoupment rules work for Type I vs Type II?

The VA is protective of veterans’ equity, so they enforce “seasoning” and “recoupment” rules to prevent “loan churning” (lenders pressuring veterans to refinance too often).

A. Loan Seasoning (Both Types)

For both Type I and Type II, the loan you are paying off must be “seasoned.” This means:

• It has been at least 210 days since your first payment was made.
• You have made at least six consecutive monthly payments.

B. Recoupment (Type I Focus)

Recoupment is the amount of time it takes for your monthly savings to pay back the closing costs.

• Type I (VA-to-VA): Must recoup costs within 36 months.
• Type II: Because you are taking out extra cash, the recoupment math doesn’t apply in the same way, as your payment will likely increase rather than decrease.

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6. How do funding fees work for Type I and Type II?

Every VA cash-out refinance requires a VA Funding Fee unless the veteran is exempt (typically due to a service-connected disability).

• Standard Rates: 2.15% for first-time use; 3.3% for subsequent use.
• Impact: In a Type I loan, the funding fee is added to the balance, but its total cannot exceed the payoff limits significantly. In a Type II loan, the funding fee is part of the total LTV calculation (e.g., your Loan + Funding Fee cannot exceed 100% of the home’s value).

Practical examples: Type I vs Type II structures

Example A: The “Rate-Drop” (Type I)

A veteran has a conventional loan at 8.5% and wants to switch to a VA loan at 6.5%. They owe $250,000. They don’t need cash; they only want a lower payment and to stop paying private mortgage insurance (PMI). Since they only borrow $250,000 + costs, this is a Type I refinance.

Example B: The “Debt-Clearing” (Type II)

A veteran owes $250,000 on their home but has $40,000 in high-interest credit card debt. They take out a new VA loan for $300,000. The extra $50,000 pays off the cards and closing costs. Because the loan exceeded the old mortgage payoff, this is a Type II refinance.

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7. How do you decide which is right for you?

Deciding between the two depends entirely on your financial goal:

• Choose Type I if: Your goal is purely to lower your interest rate, change your loan term (e.g., 30-year to 15-year), or move from a non-VA loan to a VA loan without increasing debt.
• Choose Type II if: You have a specific need for cash—such as consolidating debt, paying for a child’s tuition, or making major home repairs—and possessing enough equity to stay within LTV limits.

Quick Checklist:

• [ ] Do I need more than $500 cash back? (If yes, it’s Type II).
• [ ] Does my new loan balance exceed my current payoff? (If yes, it’s Type II).
• [ ] Is my main goal a lower monthly payment? (If yes, look at Type I or an IRRRL).

FAQs About Type I vs Type II VA Cash-Out Refinance:

1. How do I know if my refinance is Type I or Type II? Look at your Loan Estimate. If the Principal amount is higher than your current payoff, it is Type II. If they are roughly the same, it is Type I.

2. Can a Type I refinance give me any cash back? Legally, a Type I can result in very small amounts of cash (usually under $500) due to escrow refunds or math rounding, but it is not designed for cash in hand.

3. Is a Type II harder to qualify for? Generally, yes. Because you are increasing debt, lenders will look more closely at your Residual Income and credit score than they would for a simple rate-reduction loan.

4. Can I switch from a conventional loan to a VA Type II? Yes. This is one of the best features of the program. You can move from any loan type into a VA Type II cash-out.

Disclaimer: This article is for general educational purposes only and does not constitute individualized legal, tax, or financial advice. VA rules and lender overlays can change frequently. Always consult with a VA-approved lender to verify current guidelines for your specific property and service history.