Getting a home loan can be a very overwhelming task. In this article I hope to simplify the process and answer many questions the average home buyer might have in regards to loans. This post is specifically tailored to our current economy in 2010.
Whether you are looking to buy a home in the next year or not you are most likely aware of the state of our current economy. In earlier booming markets getting a mortgage was A LOT easier, even if you were aiming at getting the bad credit loan. During the latest housing boom many mortgages were handed out to homeowners who really had no place buying a home. The mortgages given to individuals who did not qualify for prime loans were called subprime loans. Subprime loans had higher interest rates because of the greater risk involved. Many people frowned on subprime lenders who flooded the market with underqualified buyers. Not only did these lenders give out loans to people they should not have, but they gave out ARM loans! These ARM loans had a very low introductory rate, interest-only payments, with ZERO down! After this low intro rate the buyers were bombarded with high rates that ultimately led them into foreclosure. In my opinion these subprime tacticts should have been illegal. In 2008 the effects of such buyers caught up with the market and our present crisis was born. We are now overwhelmed with foreclosures and short sales. The brief history will help you realize why lenders are tightening up.
Whereas in the past you didn’t have to have good credit and lenders could come up with “creative” financing methods, in todays market you must ACTUALLY qualify for your loan. There are no easy loans anymore. This sounds crazy to me, but in 2010 qualifying for a loan is starting to become logical again. You have to have proper income and your credit has to be good.
Now that you have a very basic introdution to our current lending market I will go into the actual loan process. Before you even start looking at homes to purchase you should get a pre approval from a lender. You need to know where you stand and how much you can afford. When you go in to get an approval with a lender the following criteria are the most important… 1. Your credit score, 2. Your debt, 3. Your income, and 4. The percentage of down payment you will be using.
Credit score requirements will vary depending on the lender and how much of a down payment you will be using on the purchase. There is no exact cutoff for scores however you will most likely need a 620 or higher score to be elgible for a mortgage loan. There are instances where you could pull off a lower score, but I would use 620 as the lowest score that still has a good chance at getting an approval. An example of score guidelines increasing is that Fannie Mae has recently raised their minimum score requirment from 580 to 620. Fannie Mae buys a lot of loans from direct lenders (like Bank of America), so in order for a lender to sell a loan they must also adhere to this 620 baseline score. Once again, mortgage brokers who use a lot of different lenders can sometimes still work with scores in mid to upper 500’s, but chances at getting a loan are much more slim.
Your debt to income ratio plays an important part in qualifying for a loan. If you are paying close to half of your income each month toward debt you are most likely too high by a lenders standards. For FHA loans you cannot exceed 29% for all housing related costs (PITI). FHA also has a cut off of 41% for ALL recurring monthly debts and your PITI combined. GENERALLY speaking you want to stay below 30% for your DTI ratio. Some examples of items included in this DTI ratio are credit card payments, car loan payments, student loan payments, child support payments, alimony payments and legal judgements (more details at http://www.itsaboutjustice.law/). These payments are known as the the “back-end ratio”. The “front-end ratio” are payments for housing costs (The PITI for your new home). PITI stands for principle, interest, taxes and insurance. So remember that paying off as much debt before applying for a mortgage is highly beneficial. This sometimes means paying off a car, credit cards and anything else you can!
Your down payment plays a very important role in getting your loan approval as well. Before the crash lenders provided 0% down options left and right! Currently you will most likely not find a 0% option available to you. The lowest down payment amount readily available right now is 3.5%. This rate is available through the FHA (Federal Housing Administration) loan program. The FHA is the largest insurer of residential mortgages in the world. They provide mortgage insurance on loans made by FHA-approved lenders. (Click here to read my blog entry on FHA loans) If you do not go the FHA route the lowest down payment on a conventional loan is generally 10%. Most people with great finances put at least 20% down. If you put 20% down you will avoid mortgage insurance. If you have your 20% down conventional loan you will also find your offer on a home might get a little more attention than a less qualified buyer.
Now that you have a general understanding on what it takes to get a loan I will go over the process. A lot of buyers work with a mortgage broker who can shop around to many different lenders to find the best rate. After you complete your application with the mortgage broker he will submit it to the lender’s underwriter who will go over the details with a “fine-tooth comb”. The underwriter will either approve the loan or likely ask for clarification or additional documentation from the mortgage broker. This initial response from the underwriter usually will take around a minimum of a week. The underwriter might come back with “conditions.” If he/she does this then you have a “conditional approval” (approval pending removal of the conditions). Some conditions are more standard than others. Some of the basic conditions that go along with most every deal are a satisfactory title report and appraisal, and a fully-executed sales contract. As you can see these conditions are very standard. Some other conditions might be in reference to how you have been paying rent (if you are a current renter). Some issues that come up with this is if you are renting from a private landlord. A lot of lenders require a “VOR” (Verification Of Rent) from only professional management companies or a real estate company. So if you are renting from a private landlord your mortgage broker will need to find a lender that does not have the above requirement. Little issues like this come up a lot which requires the mortgage broker to quickly find a new lender (this can delay escrow). This is also a reason to find a GOOD mortgage broker that knows what they are doing! Some more conditions that are common are verification of closing funds (down payment and somtimes other reserves), and verification of employment (Need 2 Years of employment previous to the current date). There are many other conditions that will vary from lender to lender.
After your loan is approved the loan documents will be sent to escrow/title company. Escrow will then add some other documents created from information received from the lender. The documents will then be prepared to sign and they will contact the buyer to come in to sign them. There are A LOT of papers so you should go in prepared for that. You will receive a copy of all the papers for your file. After you sign the “docs” you should expect to wait another couple of days until the lender “funds” the loan. Make sure you deposited all of your payments with escrow well prior to funding. After the loan is funded the title will record (usually next day unless there is a special circumstance). In Riverside county you can fund Friday morning and record later in the day. This is the only day you can do this (so you don’t have to wait until Monday). Other Counties have different rules for this.
IMPORTANT THINGS TO REMEMBER:
Before you look for a home, you need to factor in all of the fees that apply! The down payment is NOT the only thing you need to worry about. You need to factor in that about 2-4% of the homes purchase price will need to be paid in closing costs. Some of these closing costs are loan fees (origination fee, loan discount points, appraisal fee, credit report fee, lender inspection fee, mortgage insurance application fee, yield spectrum fee, attorney fees, underwriting fee, wire transfer fee, notary fee ETC…), prepaids (interest on loan through end of month from closing time, mortgage insurance premium, hazard insurance premium, flood insurance), title and closing charges (closing fee, title fees, document preparation, title insurance), recording fee, transfer taxes and there are even more fees that pop up!
Generally speaking you need to set aside 3% of the ENTIRE purchase price to go towards closing costs. Some FHA buyers with their 3.5% down do not realize this and get into a major financial bind in the end! My personal advice would be to AT LEAST have 10% of the purchase price in cash if you are doing a 3.5% FHA loan. Many buyers don’t budget correctly for moving costs, furnishing, closing costs, taxes, etc…
Make sure you go over your good faith estimate with your mortgage broker or lender and fully understand the amount of money you will need to set aside.
Loans usually take 2-4 weeks to complete. Everything depends on the buyers credit and other important factors.