How To Get Your Home Loan Approved
Schools should teach us how to get approved for a home loan, right? Unfortunately, they don’t, and that is a shame because buying a home is an exciting moment in life! A house is not just a wooden or concrete box to shelter, but also a place for you and your family to call home.
And as you probably know, getting the financing to start that stage of life is not always the easiest thing to achieve. That is why we decided to gather all the information you need, to find the best options and maximize your possibilities of getting that loan.
Let’s get to it!
What Exactly Are Mortgages And How Do They Work?
What Exactly Is A Mortgage
Mortgages are a specific type of loan you can take to buy or refinance your house. They are also called “Mortgage Loans”. This is one of the most common ways to purchase a house because you don’t need to have the cash upfront.
The vast majority of people who buy a house, do it through some type of mortgage. For many Americans who don’t have that amount just sitting in the back, this is the best way to purchase a house.
But there are cases when a mortgage is still the best option, even for those who don’t need it. For instance, some investors can mortgage properties to free up funds and use them in other investments.
As you know, you need to get approved to get the loan you want, and for that, you need to meet some criteria. Basically what this means is you need to prove you have:
– A reliable income
– A debt-to-income ratio of less than 50%
– A decent credit score
Is There Any Difference Between A Loan And A Mortgage?
When people talk about a loan, they are referring to a financial transaction where one party loans an amount of money, and the other party agrees to pay it back, usually plus some interest.
“Mortgage” is a term used when said loans are used to finance a property. All mortgages are loans, but not every loan is a mortgage. (You can get a loan to buy a car)
A mortgage is what’s called a secure loan. This means there is collateral the lender can take possession of, in case the borrower refuses to pay the loan. When talking about a mortgage, the collateral is the house itself.
If you stop making payments, your lender (the bank in most cases) can take possession of your house. This process is known as a Foreclosure.
How Do Mortgages Work?
Let’s break it into a practical example. Let’s say you want to buy a new house, but you don’t have all the money upfront, so you apply for a house loan.
1. You go to a bank or some other financial institution to ask for a loan
2. They evaluate your financial situation, your income, and your credit score
3. If approved, they will present you with a loan offer, the interest, terms, and conditions
4. After you sign for the loan, they will give you the money to pay for the house
5. For the next several years, you pay back a monthly fee that covers your debt plus interests
6. After your last payment, you’ll become the legitimate owner of your house
Pretty straight, right? Now there are some very important things you need to know. The first of them is: You don’t fully own the house until you have cleared the debt completely.
Two main factors decide the interest rates you’ll pay:
– Current market rates
– The risk level for the lender
There is not much you can do about market rates, but we all have some control over how risky we may appear for potential lenders. For instance, if your credit score is high, and there are few or no red flags on your credit report, you have good chances to get a lower interest rate.
Also, the lower your debt-to-income balance is, the more money you’ll be able to invest in mortgage payments, therefore, the more the lender can offer you. All of those factors will let the lender decide if your business is good for them, and how much they can finance.
The amount a lender will give you depends on what you can reasonably afford, and the fair market value of the house -determined by a proper appraisal. You need to keep this in mind when looking for houses because a lender will not be able to give you more money than what appears on the appraisal.
The parties involved in a mortgage process are:
– Lender
Lenders are usually financial institutions like banks, but credit unions or mortgage companies can also be used.
Your lender will review the information about your desired house and financial situation to evaluate the terms of your loan. Every institution has its guidelines and standards for who they loan to and how much, but they all pay attention to the same details: Credit score, income, assets, and debt.
– Borrower
The Borrower is the person seeking for a loan to buy a house. You can be the only borrower of your loan or applying as a co-borrower with your spouse. This may come in handy since adding another income can result in a higher loan.
Difference Between Conventional, FHA, USDA, And VA Loans
Each type of loan is different, some of them offer better interest rates, while others work great for the self-employed. Here are some of the differences between those types:
– FHA Loans
One of the most popular options, since most of them, offer low down payments, and you can get approved with a low credit score. These are Government-backed loans that work great for people with bad credit scores.
You need to pay mortgage insurance in most cases, and premium interest rates.
– Conventional Loans
Also known as “conforming Loans” These are loans you can get for as little as 3% down payment. This is the regular option you will find at a bank or credit institution.
– USDA Loans
The United States Department of Agriculture loans are eligible only for homes in certain rural areas, but they can be a great option for qualified borrowers. That’s because you can buy a house with no down payment at all.
– VA Loans
These loans are backed by the Department of Veterans Affairs, but the best part about them is that not only veterans but also active-duty military members can get access to them. This is undoubtedly the best option for anyone with a service record.
How To Get Approved For A House Loan?
So, if you are ready to go and fill out a mortgage application, there are some things you should consider, so you can be prepared.
Do Not Start Without A Pre-approval
This is the best way to know your budget, before starting looking for your dream house. When you know exactly how much you can count on, it will be easier for you to look for.
This way you can also get creative and evaluate different options. The best part is you are going to save a lot of time and stress looking at properties that aren’t a good deal. You are going to find many terms lenders use, such as “Initial approval”, “Pre-approval”, “pre-qualification”. You may have heard those.
You want to find a lender that looks deep into your documentation before approving you. It is better to have a negative response now, than right after you fall in love with a house out of your budget.
Get Proof Of Your Income And Debt Payments
Dig into your finances and make sure you have proof of your monthly income and debt obligations. In most cases, you will need to provide at least two weeks of pay stubs. If you are an entrepreneur or self-employed in any other way, you may need to provide copies of your last two tax returns.
Lenders use that information to determine how much you can pay monthly. If your income is high, but your debt is also high, that will limit the amount they can approve. Clearing all your debts before applying for a mortgage is the best thing you can do to get a better deal.
Check Your Finance Thoroughly
Take a good look at these two things: Your credit score and your credit history report. And make sure everything is correct and up to date. If you plan to start looking for a house in the future, you may want to look for a credit report monitoring system. They can help you keep your finances in check, and you can cancel them when you finish the purchase.
FICO Score And House Loans -What You Need To Know
The lower your FICO score, the higher the mortgage rate you’ll pay. But also, if your score is lower than 680, most lenders simply won’t approve.
Buying a house rarely is an impulsive decision, so if you have time, make sure to fix that FICO score before starting the process.
When To Look For An FHA Loan
These loans are insured by the Federal Housing Administration (FHA). What that means is: if you default on the loan, the Government will pay a claim to the lender.
These options are intended for low and moderate-income borrowers, but also for those whose credit scores are lower than what banks require. The downside is that the purchasing of mortgage insurance is mandatory, and the loan limits are lower.
One thing to remember about these loans is that the FHA is not providing the money. They only make sure the FHA-approved lender gives you the loan.
Be Clear About Your Budget And Commit To It
Buying cars and houses are the best ways for our ego to step in the way. And if you happen to find an unscrupulous seller along the way, that could become a toxic combo. Set yourself a reasonable boundary of how much you can pay for a house and stick to it.
There are two main things to consider:
– The house price you can afford
– The amount you are comfortable paying monthly
Your total housing payment should be no more than 35% of your gross income, at least that’s what finance experts suggest. That means if you and your partner make $100,000 a year, your maximum housing payment would be $2,916 a month.
Follow this formula:
(Gross Income / 12 months) X 35% = YOUR MAX MONTHLY PAYMENT
A Higher Down Payment Is Always A Good Start
With some FHA exceptions, most lenders require at least a 10% down payment. However, if you have some savings and can put at least 20%, you can avoid paying private mortgage insurance and get a bigger loan.
A Real Estate Agent Can Make The Process Easier
Going shopping for a house could be the best and the worst part of the process. While it may be exciting to think about the possibilities of a new place, it also can become overwhelming very soon.
You can do this process on your own, or find yourself a real estate agent. Keep in mind looking for a new home is like having an unpaid second job! There is a lot of paperwork, and not to mention the time it’s going to take you visiting houses.
Understanding Mortgage Language
As you dive deep into the mortgage process, you will find a lot of tricky and confusing terms. We collected the most used ones, so you can come back to this article whenever you have questions.
Amortization
This refers to the way your monthly payments will cover both: Your lenders’ loan and the corresponding interest for that month. At the beginning of your mortgage process, most of your payments cover interests, and as time goes on, more of your payment covers the balance.
Down Payment
This is the first payment you need to make upfront to purchase a house under almost any circumstance. Many factors can affect the amount of your down payment, such as the institution that’s providing the loan, your FICO score, your income, and the value of the house you want.
As a rule of thumb, the bigger your down payment, the better loan terms you can get. Also if you give a 20% down payment, you don’t need to pay for mortgage insurance.
You can use a mortgage calculator like this one to get a better idea of how your mortgage will work.
Escrow
During the mortgage process, you also need to take care of property taxes and homeowners insurance, and the best way to do that is with an escrow account. It works like a checking account that your lender can use to make those payments on your behalf.
It is important to mention that not all mortgages come with an escrow account, and if you don’t have one, then you need to take care of your property taxes and insurance by yourself.
Interest Rates (fixed and adjustable)
Interests are the fee you pay your lender every month for the money borrowed, and there are two types: Fixed rates and adjustable rates.
– Fixed rates
This is the best way to plan because you know the exact amount you need to pay every month, from the beginning.
– Adjustable rates
This option can help you get lower interest than the fixed rates, but as they adjust according to the market, you also can end up paying significantly more. This is the best option for people with an advanced understanding of the real estate market.
Loan Service
This usually refers to the company that’s providing the loan. They also take care of the monthly mortgage statements, processing payments, and if that’s the case, managing your escrow account.
Mortgage Payment
The amount you pay every month to your lender. It has four main parts:
– Principal
The amount that pays the loan. In some cases, you can make extra payments to it to reduce the total amount you will pay at the end. You can also lower your interests and the number of payments.
– Interests
You will pay at an interest rate determined by your income, down payment, and credit score. Think of it as the lender’s fee for the borrowed amount.
– Taxes & Insurance
If you have an escrow account, then your taxes and homeowner insurance will be paid through it by your lender. If not, you still have to take care of those on your own.
Mortgage Term
This refers to how long you will be making monthly payments. The two most common are 30 and 15 years.
Private Mortgage Insurance
In some cases, you will be required to pay a fee to protect your lender in case you stop paying your mortgage. This is known as Private Mortgage Insurance (PMI), and it is mandatory if your down payment is lower than 20% of the property cost.
Promissory Note
This is the document that includes all the guidelines for repayment, such as the interest rate, the mortgage term, or the amount borrowed. It is a legal IOU note where you and your lender agree upon the transaction terms and conditions. If you fail to repay as stated here, the lender can use this note to take ownership of the house.
Conclusion
As you can see, while you have a lot of things to consider, applying for a house loan is not as threatening as it may sound. And if you are switching homes, maybe you also want to check this article about how to sell your house fast.
Follow us on social media, and let us answer any other questions you may have about how to get approved for a house loan. We will be more than happy to help!
