I was wondering why you’ve been rejected for a mortgage? You’re not alone. A recent survey of 1,000 American adults found that 37 percent do not understand how to get approved for a home loan despite the fact that nine out of ten own their own homes. Here’s some insight into what lenders look for and how you can improve your chances of getting approved.
Lenders assess a borrower’s ability to repay by looking at income and expenses. The maximum monthly payment for a mortgage is typically 28 percent of gross income or 38-40 percent of net take-home pay, but lenders will go as high as 45-50 percent if you can demonstrate you’re a low-risk borrower with a reliable source of income. If your debt-to-income (DTI) ratio exceeds these limits, you may not qualify even if your credit is good.
Your DTI multiplies loan payments by the number of months in the repayment period—the total amount paid divided by interest rate—and then divides that product into your gross monthly income (before taxes). Some lenders limit DTIs to no more than 38 percent when underwriting a loan, but some go as high as 50 percent.
Lenders assume you’ll be paying these amounts every month and will not see a reduction in pay or lose your job. If you anticipate any significant changes in the amount of your income, such as bonuses or overtime, then discuss this with your lender at the onset because it could affect their decision to give you credit.
How do I know if my DTI exceeds these limits?
Here’s an example: Let’s say you want to borrow $100,000 at 4% interest over 30 years with principal and interest monthly payments. Your monthly mortgage payment is, thus,
$459.28 ($100,000/30 years*4%/12 months)
Your DTI for this loan is $1,433.33 (your monthly gross income of $4,000 divided by 1 plus the monthly interest payment of $459.28 over 30 years). That means you can’t borrow more than roughly one-third of your pre-tax income unless you can show that you pay little or nothing now toward housing, transportation, and food.
A second measure used to approve borrowers is their credit score. For conventional loans with 20 percent down or less—Fannie Mae and Freddie Mac require at least a 620 FICO score on most types of purchase transactions. Many lenders will go as low as 580—they want scores higher than 700. If they’re making an FHA loan—which requires as little as 3.5 percent down and has a maximum DTI of 56 percent. They need a minimum score of 500 but often won’t go lower than a 580.
Here’s another way to look at it:
The higher your credit score, the more attractive you are to lenders. Because they believe you’re less likely to default on your obligation. No matter where lenders set their bar. Keep in mind that a borrower with a good credit profile is never turned down for being too good.
How to improve your chances of being approved for a mortgage?
If your DTI or credit isn’t up to par, take whatever steps you can know. Before you apply again so that you will be stronger next time around.
Obtain copies of your three most recent pay stubs, and if you recently landed a job or received an increase in pay. Wait to apply until several months have passed. Keep in mind that the fewer debts you have when applying for credit. The easier it is for lenders to calculate your debt-to-income ratio.
Take control of your credit by paying all bills on time every month. Not only will this help your score. But it also makes reporting defaults less likely because they can be disputed. Once you begin rebuilding your credit track record after a default. Don’t allow new accounts to become delinquent, or you’ll undo all your hard work in short order.
Talk with a mortgage professional who understands what you need and has the knowledge and skills to get you approved. If your credit isn’t what you’d like it to be, let them help you develop a plan that makes sense for your situation and then takes steps now to follow through with it. This will allow you to approve a mortgage.
Let me know in the comments if these tips help you to understand Why it is so hard to get approved for a mortgage?.
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