Lets review. Things have changed substantially in the last 3 years. This is just a short overview of what lenders are looking for NOW to get someone a mortgage:
Conventional, conforming loans - Generally you need 20% down to avoid mortgage insurance. Lenders will approve 10% down WITH mortgage insurance but the cost of that has increased substantially. Also, you need at least a 700 credit score to GET mortgage insurance. To get the best rate, you need a credit score of 700 or better as well. You can GET a conforming loan with a 620 credit score, but your interest rate will be higher. You need steady income (2 years or more) and your debt to income ratio should be 35% or lower, but NEVER above 40%. In some instances a 45% will be approved, but with a 45% debt ratio you better not need food or a car. Debt ratio is calculated by taking your gross monthly income x 35%. That is the maximum amount of your mortgage paying including principle, interest, taxes and insurance. If you are self employed, that will be calculated based on your adjusted gross income. Stated Income loans are gone, so think about this when your accountant writes off everything and the kitchen sink to get your taxable income to zero. Even if you choose an interest only loan, your debt ratio will take into consideration the fully amortized payment. How much does your credit score influence the rates? As of today a 620 credit score will have a 30 year fixed rate of 5.25 (Pennsylvania rates). A 700 credit score will have an interest rate of 4.875%. On a $150,000 loan, that a difference of $57 each month JUST for a lower credit score. That's $20,520 over the life of the loan. Oh, and bankruptcies need to be gone for 4 years. You can have NO late payments on anything after a bankruptcy. No collection accounts. Late payments on a Student Loan is just as bad as a bankruptcy or a late payment on a mortgage. Student loans in default will disqualify you for a mortgage. The downpayment money must be "sourced" i.e. you better be able to prove where it came from and that it does not need to be paid back to anybody.
FHA Loans - Once upon a time FHA loans were the answer for people who didn't have great credit or enough money for a downpayment. Now you need a minimum credit score of 640 to even get a loan. The downpayment is 3.5% which must be YOUR money. Gifts of funds are allowed to help with closing costs. Mortgage insurance is required on EVERY loan - both upfront AND monthly for a minimum of 5 years regardless of your Loan to Value. Today's rates on an FHA loan are 5%. On a $150,000 base loan amount, your up-front mortgage insurance is $1500 (which can be added to the loan.) The monthly mortgage insurance on a $150,000 loan is $112.50 PER MONTH. so the monthly payment on an FHA $150,000 loan would be $926 PLUS your taxes and insurance. For an FHA loan you may be required to pay off collections before the loan gets approved. Your appraisal is more stringent and will cost more than a regular home appraisal. ANY conditions which the appraiser feels are questionable MUST be done before the loan is closed. Peeling paint, lack of hand railings on steps, worn roof tiles are all examples of items which will impact an FHA appraisal.
USDA Rural Development Loans - Little known and under-utilized, the USDA "Rural" loan is not just for homes in the boondocks. Lots of metropolitan areas have communities 20-30 minutes from "town" which qualify. All of the counties surrounding Pittsburgh, for example, qualify to a large extent for these loans. The reason why these loans are so popular is that there is NO mortgage insurance needed and you may finance 102% of the purchase price. The interest rate is 5%. The monthly payment on a USDA loan for a $150,000 purchase would be $805 plus taxes and insurance. That is $121 per month LESS than an FHA loan. Some issues with a USDA - there are maximum income guidelines, you can own NO other home at the time you purchase a house with a USDA loan and you must have a 640 credit score. In addition, the address of the home you are purchasing must be qualified by the USDA.
Other items that lenders look at when qualifying you for a mortgage are:
-Payment shock. If you are paying $500 in rent and the new mortgage payment is $1500 they want to be SURE that you can meet that obligation.
- They want to see 12 months cancelled checks from your landlord if this is your first home, or they want to see proof that your last 12 months mortgage payments have been made on time.
- Don't plan to use the income from a second job to qualify for a mortgage unless you have held that second job for AT LEAST 2 years. Likewise, if you are self-employed, you must be in business for at least 2 years AND provide complete tax returns with all schedules.
- Be prepared to provide bank statements for at least the last 2 months. IF you have bounced checks you're probably toast. Lenders do not like to see people who abuse their bank accounts.
- Don't go out and buy anything while you are in the process of getting a mortgage. The payment on your new car might just queer the whole deal for you.
- Don't be surprised to find that the lender will expect to see 2 or 3 months "reserves" in a savings account. That means you may have to prove that you've got 3 months mortgage payments in a bank account for emergencies. (AFTER closing costs and downpayment are paid)
- Be prepared to have 4-6% of the sales price set aside for closing costs. Most loans will allow 3% to be paid by the seller, but the rest is on you.
- Budget $100 every month for what I call the "The house is going to need something" Fund. Whether that's a broken window, or a new furnace or just a bunch of flowers for the front yard, having that contingency fund is important.
- Don't believe your realtor when they tell you that you can afford a $300,000 home. Look at the numbers. Consider all the factors INCLUDING your life-style. If you eat out 3 days a week and do NOT want to give that up, include that money in your budget. If you know you will need a new car in the next year, include that in your budget. Saving up for college? Budget it. And always, always, always include additions to your own retirement account in your budget.
Knowing these rules will make home purchase and ownership less stressful. Finally, take a good hard look at where you want to live. Know the community and look at options. The difference between homes in a 15 mile radius of your "target" area might have a price difference of 50% OR MORE. Be prepared to compromise. Don't buy more house than you can afford. Consider the cost of maintenance and upkeep. If you hate to cut grass, don't buy a house on 2 acres.
Follow these general guidelines and you too can be a homeowner.