There is a lot of misconception out there when it comes to qualifying for a mortgage loan. For instance, the notion that from the lender’s perspective, loan eligibility is based only on a formula.
Although mortgage underwriters do look at a variety of different information when determining loan qualifications, it ultimately comes down to four things: credit, equity, income and assets.
The most important consideration, when qualifying for a home loan, is your credit. Unfortunately, it is also one of those areas in which people are unaware of how their credit history impacts the qualification process. Your credit history compels the lender to determine the likelihood that you can pay back the loan. The lender will take the time to carefully analyze your credit history, and establish your reliability profile. They consider how your current credit cards and loans are paid back, whether the payments were made on time and if the loan was re-paid in full. All of these factors play a part in determining your credit rating or credit score. Your credit score establishes your qualification for a mortgage, and helps in determining the interest rate that you receive.
Credit scores typically used for mortgages range between 350 and 850. A good credit score is considered above 740, whereas anything below 600 is considered to be a poor credit score. Typically, most lenders tend to regard 680 and above an appropriate credit score for qualifying for a mortgage. Also, the higher your credit score the better interest rate you can receive. Lenders will also carefully examine the items on your credit report. They use these reports to look at whether your account has been open for at least a year, and that there are no outstanding collections or judgments against you. In addition, the lender may want to verify any rental history to help determine consistency with arranged payments.
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When the housing market is down, many homeowners find themselves with less equity when selling their home. If the appraisal of your home comes in lower than expected, you may need to plan for having additional funds available to make up the difference.
Another thing to keep in mind when buying a home are the various settlement fees typically incurred at the loan closing. The settlement fees can vary, depending on the type of loan and the location of the property you are buying. However, it is a good idea to consider the various home loan programs that allow you to have the seller pay for these settlements, as well as for any of the additional costs incurred.
Income vs. Debt
An additional component in obtaining a mortgage loan is your Debt-to-Income ratio (DTI). Simply put, these are the fixed expenses, in addition to the new mortgage, which are assessed against your gross monthly income (before the taxes are deducted). This will help the lender to ascertain whether you are spending less than 50% of the gross monthly income on those fixed expenses. Variable expenses such as utilities, cable or phone are not included in the DTI ratio.
The lender may also specifically inquire about your liquid assets. They’ll want to verify that the disclosed amount you will be using for the down payment is accessible in a liquid cash account, such as a checking or savings account.
Also, depending on the type of financing you are seeking there could be a requirement to have a steady cash reserve. These reserve requirements are more common when you are trying to purchase a second home or investing in a property.