Applying and qualifying for a home loan is one of the more stressful aspects of home buying. Even current homeowners may find that the rules have changed some since the last time they purchased a home. Banks and mortgage companies have strict criteria that they must adhere to when it comes to approving a loan application.
Do you know what it actually takes to qualify for a home? Some folks believe that their good credit history and level of income is the only thing they need to pay attention to. Of course, clean credit and enough income are important, but there is more to it than this!
Firstly, not all credit scores are created equal! Many people today use one of several online services to keep track of their credit history and credit score. Most of these services are providing you with your VantageScore credit rating. Three major credit reporting bureaus — Experian, TransUnion, and Equifax — jointly developed the VantageScore rating in 2006, and it’s a great number to know and keep track of. But, you may be surprised to know that most banks and mortgage companies refer to your FICO score, which is often different, and often lower than your VantageScore.
Another thing banks and mortgage companies look at is your debt to income ratio, often referred to as your DTI. DTI is calculated by dividing total recurring monthly debt by gross monthly income, and it is expressed as a percentage. Typically this number should be at no more than 33% to successfully qualify for a mortgage.
An easy rule of thumb is that your projected debts, including the new home mortgage payment along with outstanding credit card debts, car payments, etc. should be no more than ⅓ of your annual monthly income as reflected on your tax returns for the previous two years. This is where things can get sticky for people, and where it’s far from as simple as saying “I easily earn enough and have good enough credit to qualify.” For instance, a new job with a higher income this year will NOT mean you qualify, based on your last two years’ tax returns.
Many financial institutions offer to “prequalify” you when you are starting the house-hunting process. This is helpful, but prequalifying is just an indicator and not a promise of any sort from the lender. Not until a loan application is sent to underwriting do you find out just exactly what you will be up against when it comes to acquiring your loan.
Knowledge is power, so look at your finances with a clear eye when considering a new home. A higher down payment will reduce projected mortgage payments, of course, therefore reducing your DTI, and there are other ways to steer your way successfully through the mortgage process. This is where your real estate agent and mortgage broker can help you navigate your way. Happy House Hunting!