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How to Get a Mortgage in 2023

24.01.2023
0
19 min.

Buying a house is one of the most responsible purchases in any person's life. A mortgage is a suitable solution for purchasing real estate here and now without the need to save money for years. This article describes the process of obtaining a mortgage in 7 steps.

How to Get a Mortgage in 2023

What mortgage lenders look for

Good credit

Lenders carefully study the borrower's credit report, since the credit history shows how risky it can be for a lender to issue a mortgage to a certain borrower. A high credit score is an indicator that the borrower was responsible for payments on previous loans, did not have bankruptcies, and can pay off the mortgage.

Minimum credit score requirements differ depending on the lender. Mortgage lenders require a minimum of 620 credit scores for a conventional loan. Types of mortgages that are guaranteed by government organizations may have less stringent requirements for credit reports. FHA loan, which is backed by the Federal Housing Administration (FHA) has a requirement of a 580 FICO score. Other types of mortgages, on the contrary, require a higher credit score because they have increased limits on the loan amount. A higher credit score allows the borrower to have a lower interest rate. This is so because lenders set a higher interest rate for riskier borrowers.

Provable income

Stable income and job history are important requirements for every mortgage lender. The presence of a stable income shows the lender that the borrower can make monthly debt payments during the long life of the loan, which is 15, 20, or 30 years for a mortgage.

Usually, lenders do not set requirements for the amount of monthly or annual income. The main thing for lenders is the stability of income generation. A common requirement among mortgage lenders is that at the time of applying for a mortgage, the borrower has employment, self-employment, or another source of income that brings them a stable income for at least 2 years.

The source of income that will not cause questions from the lender is employment. When applying for a mortgage, the borrower must specify the job title, the name of the company where they work, the name of the employer, and their contacts. However, self-employed borrowers can also be qualified for a mortgage. Lenders may be interested in any assets that can be withdrawn and used to pay for a loan in an emergency. Such assets can be an investment portfolio or other property. As an additional income, the borrower can specify child support or alimony payments.

Down payment

A down payment is a part of the real estate value that the borrower pays to the lender immediately after signing the loan agreement. A down payment allows the borrower to reduce the loan amount, which means reducing the fee for interest and the loan term.

Minimum down payment requirements differ depending on the mortgage lender. Lenders usually require at least a 5% down payment for a conventional loan. Different mortgage loans require different down payments. FHA mortgage is created specifically for young families who are buying their first real estate, so the down payment for such a loan is only 3.5%. Mortgages that are backed by the Department of Veterans Affairs (VA) and USDA loans do not require any down payment at all.

In all cases, except a VA loan, the borrower is recommended to make a 20% down payment, since in this case, they will not need to pay private mortgage insurance (PMI). Private mortgage insurance is a special payment that is added to each monthly mortgage payment if the loan-to-value ratio is over 80%. If the borrower cannot afford a 20% down payment, then such a borrower is riskier for the lender, so the lender requires additional payments from the borrower.

Debt-to-income ratio (DTI)

Debt-to-income ratio (DTI) is one of the most important indicators representing that a borrower can afford mortgage payments. Lenders do not have requirements for a certain amount of annual income because the DTI ratio better reflects whether the borrower has sufficient cash flow to qualify for a mortgage.

The DTI ratio calculates as the total of the borrower's minimum monthly debt payments divided by their gross monthly income. To calculate the DTI ratio, not only mortgage loan is taken into account but also other loans of the borrower such as student loan, credit card debt, and auto loan.

It is recommended to have as low a DTI ratio as possible, as this will show the lender that the borrower will not have problems with payments in the future. To be qualified for a mortgage loan, a borrower is recommended to have only a 36% DTI ratio, but 43% may be enough for some types of mortgages. The borrower needs to consider that ideally, all housing expenses, including monthly payments, homeowners' insurance, and property taxes, should not amount to over 28% of their monthly gross income.

How to get a mortgage

If you are convinced that you meet all the criteria and are ready to take out a mortgage, then follow these steps that will tell you in detail how to get a mortgage:

1. Check your financial situation

Before applying for a mortgage, the borrower needs to check their financial situation. Buying a house is a big purchase, perhaps the biggest in life, so the future homeowner needs to prepare for it with special care.

A potential borrower needs to assess their income, income stability, and their growth potential. Any income should be considered, from employment to various social benefits. The higher the borrower's income, the more likely they are to receive less interest rate and not overpay for the loan. To find out the amount of future monthly payments, the borrower can use the mortgage calculator, which is available either on the mortgage lenders’ websites or in other open Internet sources. In this calculator, they need to enter the home's purchase price, the average approximate interest rate, and the mortgage term. The calculator will calculate how much monthly payment the borrower will have and what interest fee they will pay.

Having received such valuable information, the borrower should evaluate their assets, and income level and take into account other expenses such as payment for credit card balance, payments on other loans, spending on groceries, subscriptions to streaming services, and other expenses and conclude how affordable it is for the borrower to take a mortgage now.

2. Identify the suitable mortgage

Adjustable-rate mortgage vs fixed-rate mortgage

A fixed-rate loan is a mortgage that has a fixed rate throughout the life of the loan. The interest rate for such a loan is set when signing the loan agreement and is not subject to change, regardless of any factors. This type of loan is suitable for borrowers who want stability and want to be sure that they can afford mortgage payments for a long repayment term lasting 15, 20, or 30 years.

An adjustable-rate mortgage has a changing interest rate that depends on changes in the mortgage market. Such a loan usually has a loan term that is indicated as 5/1 or 7/1, where "5" is the number of years at the beginning of the repayment term during which the interest rate does not change and "1" is how many times a year the interest rate is reviewed and can rise or fall. This type of mortgage has an initial interest rate lower than the fixed-rate mortgage and is more suitable for those borrowers who plan to have more income in the future and want to get a rate cut.

Conventional mortgage vs. government-backed loan

Government-insured loans include FHA loans, VA loans, and USDA loans. FHA mortgage is created for borrowers who have moderate income and fair credit and who are buying their first home. It has less stringent requirements for credit score, down payment, and DTI ratio than conventional loans. VA loan is a loan that is available only to eligible veterans. It does not require a down payment and does not require a PMI payment. A USDA loan is a mortgage for those borrowers who buy housing in special rural territories. It also has less stringent requirements than a conventional mortgage.

If the borrower can be qualified for one of these loans, then they are recommended to take a government-backed mortgage rather than a conventional loan, since such loans have more flexible terms and less stringent requirements.

Short-term loan vs. long-term loan

A short-term loan has a repayment term of 15 or 20 years. This type of loan allows the borrower to pay off the mortgage faster and have a smaller overpayment for interest. However, with a short loan term, the borrower has a higher monthly payment. Some lenders may not allow borrowers who take a short-term loan to take out a loan for a large amount, as they may doubt that the borrower will pay the mortgage in a short time.

A long-term loan with a repayment term of 30 years, on the contrary, allows the borrower to take out a mortgage for a large amount. Although such a loan will require less payment every month, the borrower will pay more interest at the end of the life of the loan.

3. Compare mortgage lenders

Comparison of mortgage lenders is one of the most important stages of obtaining a mortgage. For the most detailed study of this issue, the borrower can contact the mortgage broker.

Mortgage brokers are intermediaries between lenders and borrowers. The borrower turns to a mortgage broker for help in finding the best loan offer and they, for a fee, fully study the offers, help in collecting documents, on and accompany at all stages of obtaining a mortgage. Mortgage broker services can save borrowers a lot of time and give them confidence that all documents will be prepared correctly. Before choosing a suitable mortgage lender, the borrower needs to familiarize themselves with their types. There are several of the most common types of mortgage lenders.

  1. Direct lenders are mortgage banks and credit unions that issue mortgages themselves without intermediaries. Usually, working with a direct lender does not require the participation of a mortgage broker. The mortgage consultant of such a lender accompanies the borrower at all stages of obtaining a mortgage up to the closing of the loan.
  2. Wholesale lenders are those lenders who do not work directly with borrowers. The wholesale lender usually offers loans to banks, credit unions, and mortgage brokers who are in contact with the borrower. Wholesale lenders often sell their loans on the secondary market almost immediately after closing. They sell them through Fannie Mae and Freddie Mac.
  3. Portfolio lenders use their funds to issue mortgages. A Сommunity Bank is an example of such a lender. Portfolio lenders do not sell their loans on the secondary market, but hold them in their assets. Because a portfolio lender uses its funds to issue a loan, lending conditions can be more flexible than those of a direct lender. Jumbo loans are mainly issued by such lenders. Because such mortgages are riskier, portfolio lenders usually have higher requirements for credit score and down payment than other lenders.
  4. Retail lenders cooperate directly with potential buyers, not institutions. Banks, credit unions, and mortgage brokers also fall into the ranks of such buyers. Therefore, the set of requirements and the procedure for applying for a mortgage from such a lender are identical to the procedure for applying with a direct lender.

4. Pre-approve for a home loan

Getting pre-approval is an important point in comparing loan offers. Pre-approval does not oblige the borrower to complete the mortgage process, so they can receive several pre-approvals from different lenders. The borrower is recommended to get at least 3 pre-approval from 3 different lenders.

Some lenders do a soft credit check when issuing pre-approval, but there are also financial institutions that do a hard credit check. However, if the borrower submits several applications for pre-approval in a short time, for example, within a month, then all credit checks made will affect the borrower's credit history as well as receiving only 1 pre-approval.

Pre-qualification allows the borrower to study the loan offer in which all conditions are based on the borrower's data. Modern lenders allow the future homeowner to apply for pre-qualification online.

The documents you need to get a mortgage

At the stage of obtaining pre-approval, the borrower will need to provide the lender with documentation that confirms their identity, income level, and assets. The lender may ask the borrower to upload some of these documents:

  • State-issued ID, passport, or driver's license;
  • Pay stubs for the last 30 days;
  • Federal tax returns for the last 2 years;
  • Proof of the availability of other sources of income if they are specified;
  • W-2 forms for the last 2 years;
  • Recent bank statements;
  • Details about other loans, if any;
  • Documentation about the availability of assets for a down payment.

5. Submit the loan application

If the borrower, after receiving the pre-approval, proceeds and takes out a mortgage, they need to submit their loan application. Some lenders may ask to update the financial documentation to start the underwriting process and close the home loan.

Approximately 3 days after applying, the borrower receives a loan estimate from the lender, which indicates the cost of the loan, all fees, including closing costs, interest rate, and APR.

At this step, the borrower can decide whether to buy discount points to reduce the interest rate. If the borrower purchases them, the purchase price of discount points will be included in the closing costs.

6. Begin the underwriting process

During the underwriting process, the lender finally decides whether the borrower is eligible for a mortgage, even if they have received pre-approval. At this stage of taking a mortgage, the lender makes a credit check. Also during the underwriting process, the lender verifies the borrower's income data, the lender can contact the employer to verify the data provided by the borrower.

After the lender approves the mortgage to the borrower, they order a home appraisal. An appraisal informs the lender of the market value of the property.

The borrower needs to order a home inspection that will check the borrower's future home for defects. At this stage, if the house has serious defects, the borrower can discuss them with the seller and possibly lower the price. During the underwriting process, the borrower is advised not to change financial situation: not to make big purchases, not to change jobs, and not to take other loans.

7. Close on the home loan

After receiving the approval and finishing the underwriting process, the borrower only needs to take the last step - the closing process. Before closing the mortgage, the borrower needs to prepare funds for payment of closing costs and down payment. Closing costs can range from 2% to 5% of the total cost of the house and usually include:

  • Appraisal fee;
  • Attorney fee;
  • Origination or underwriting fee;
  • Recording fee.

Closing costs are specified in a special document called Closing Disclosure. At this stage, the borrower can still ask questions. Buying a house is one of the most important purchases in life, so it is recommended that the borrower study the process and understand all aspects of the agreement they sign. Once the agreement is signed, the borrower can officially be considered a homeowner.

How can I make sure I get a mortgage?

The borrower can be sure that they will receive approval for a mortgage if they have a credit score above 620, a debt-to-income ratio of only 43%, and a stable source of income that brings them income for at least 2 years. Also, the borrower must have funds to pay a down payment of 3%-5% of the loan amount and closing costs of 2%-5% of the amount of the property value. The borrower's credit history should not include bankrupts under any article for the last 7 years.

What prevents you from getting a mortgage?

The borrower is likely to be refused a mortgage if they have a low credit score below 580, a high debt-to-income ratio above 50%, and do not have any funds to make a down payment of at least 3%-5% of the loan amount. Also, the chances of getting rejected increase if the borrower has too many other long-term loans like student loans, credit card debt, or auto loans. If the borrowers do not provide the documentation, then they also have a chance of being refused.

Why do banks refuse mortgages?

The bank may reject the borrower's mortgage application for several reasons. Such reasons may include the borrower's bankruptcies in the last 7 years, the non-existence of a stable source of income that can be documented, low credit score, filing too many applications for other long-term loans over the past 6 months, and late payments on previous loans.

What factors affect getting a mortgage?

Getting a mortgage is affected by your credit score, job history, debt-to-income ratio, the availability of other long-term loans like student loans or auto loans, and the amount of down payment that you are willing to make.

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