-The Basics- Mark Taylor, Senior Licensed Loan Officer, NMLS: 1504731
This article is for informational purposes only and is not a commitment to lend on any specified terms.
Qualifying for a mortgage loan can be a very complex process because there are many regulations and requirements. This is perceived as a good thing since the 2008 housing and financial crisis was a result of little to no regulation in the lending industry. As a result of the crisis, there are many standards, regulations, and guidelines that have been put in place through the Dodd Frank Act, Consumer Protection Act, and others. These have been designed to prevent future housing and financial crises.
With that said, the relatively new regulations have made the in's and out's of qualifying for a mortgage loan somewhat difficult for your 'day to day consumer' to understand. In fact, most banks and lenders adhere to the guidelines of Fannie Mae and Freddie Mac which consist of over 1,200/2,000 pages (respectively) of standards, covering a multitude of financial scenarios for individual borrowers and income types.
In this article, I'm going to review the basics of qualifying for a mortgage loan. As an experienced loan officer, there are three categories that I feel are equally important to each other when qualifying a potential client. I personally look at each of these items during an initial consultation before taking an application and applying the aforementioned guidelines for a thorough prequalification/preapproval.
1) Credit Analysis
It's pretty commonly known that a decent credit score will yield better mortgage options and overall qualification by today's standards. Ideally, I will look for a credit score above 620 to qualify. A lower credit score can be used; however, the client will need to have a very strong profile in other categories for the lower score to be considered. In addition, a credit score below 620 is considered high risk to all banks/lenders, regardless of compensating factors and will inevitably be an expensive loan product- albeit, possibly not as expensive as waiting to fix things in a rising housing market.
In addition to the credit score, I would also ask if there are any past bankruptcies, short-sales of property, or foreclosures. These would not necessarily disqualify a potential client, however, there are certain waiting periods depending on the severity.
2) Ability to Repay
Regardless of how excellent the credit analysis is, having the ability to repay a loan is just as, if not more important than the qualifying credit score. This is determined by calculating the Debt-to-Income (DTI) Ratio, or essentially Money-In -vs- Money-Out.
Monthly Income Calculations-
In most cases, for W2 income earners, this is calculated by taking the annual salary and dividing by 12. There are some caveats that go into calculations if the income type (inconsistent hourly pay, overtime, bonuses, commissions, etc.) is variable (see third bullet below).
For self-employed earners, things get a little tricky as the income is always considered variable. In general, for sole proprietor or 1099 income earners, I have them look at Schedule C, line 31 for their qualifying income. For LLC, S or C Corp individuals, the K-1 will usually provide the income needed for qualifying. Many additional factors can go into self-employed income and each situation is different which is why a highly knowledgeable loan officer is especially paramount for these individuals.
Variable income is always calculated in worst case scenario, over a two year period. If there is not a two year period of earning the income type, it usually cannot be considered. The two years are added together and divided by 24 months to show stability. If the income type had decreased in the second year, that income is used and divided by 12. There are some additional considerations that an experienced loan officer can help with.
Monthly Debt Calculations-
Debts that report to Credit are used in calculating part of a clients overall liabilities/obligations. With most cases, the balance of the debt is not considered. (see third bullet below). The minimum monthly payments would need to added up for your total debt obligations that report to credit.
Debts that do not report to credit and have a legal obligation, can also be considered in your total liability. This would include monthly payments to the IRS, child support or alimony payments, etc. Debts such as electric, gas, phone, or others would not be considered.
Debts with balances but no monthly payment, will need to have a minimum monthly payment calculated. In most cases, this would be student loans that are in deferment and lenders will count .5% to 1% of the balance as a monthly payment for student loans (depending on the mortgage loan program). Collections could also potentially require a minimum monthly calculation depending on the loan program.
The Housing Liability, will also need to be added into these calculations. This includes Principal, Interest, Taxes, Insurance, and any HOA dues (even though HOA will not be part of the mortgage payment). If you own additional properties with or without a mortgage, these items are included as well.
The calculation for determining a clients ability to repay is quite simple.
Total Monthly Debts / Total Monthly Income = DTI Ratio
For the sake of generality, in most cases this limit is 50%. this limit can go higher or lower depending on the loan program, overall risk profile, and other compensating factors.
Regardless of any loan program chosen there are always going to be closing costs and in most cases, a down payment as well. If you are lucky enough to find a lender that doesn't charge any lender fees* (me), third party closing costs can still average between 1 and 5% of the purchase price depending on the state and various regulatory factors. Minimum down payments can also vary depending on the loan program from 0-5%.
Average Closing Costs for a Residential Purchase (By State)
Source: ClosingCorp data from first half of 2021
When qualifying a mortgage we would want to make sure you have, or will have, enough assets. Qualifying assets can include, but not limited to: Checking/Savings, Stocks, 401K/IRA funds, and/or qualified gift funds from a relative or domestic partner.
There are several factors beyond the generalities in this article that will ultimately qualify a mortgage loan where individuals do not meet everything outlined above. To go through all of them would result in an article just as long as the guidelines mentioned earlier. The number of if/then scenarios is enough to make your head spin if it hasn't already. Ultimately the best course of action is to research a suitable lender and loan officer who qualifies consumers on a daily basis, and build trust. Speak with them first to qualify you for a mortgage and then research or request assistance in finding a realtor that is equally competent in their field.
The good news is that most loan officers, experienced or not, will try to do right by you. The regulations Loan Originators are held to in today's world is far different than the past, thanks to the extensive Dodd Frank Act in 2010.
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Mark Taylor | NMLS # 1504731 | AL: 67777, AZ: 0939604, CA: CA-DBO1504731, CO: 100520451, FL: LO35912, GA: 51692, ID: MLO-21237, IL: 031.0043598, KS: LO.0039017, KY: MC394725, LA:, MO: 18752-MLO, MT: 1504731, NE:, NV: 59226, NJ:, NM:, NC: I-170118, OR:, PA: 66651, RI:, SC: MLO-1504731, TN: 125173, TX:, VA: MLO-29826VA, WA: MLO-1504731, WV: LO-36484, WI: 1504731, WY: 6646
For information purposes only. This is not a commitment to lend or extend credit. Information and/or dates are subject to change without notice. All loans are subject to credit approval. UMortgage LLC D/B/A UMortgage NMLS #1457759 Equal Housing Opportunity, 2022 All Rights Reserved.