With mortgage rates rising as the Federal Reserve slowly inches interest rates up, people who have been on the fence about buying a house have realized they need to act soon or risk paying more every month.
Buying a house, however, is not as easy as finding the one you want and making a deal with the seller. You still need to secure a mortgage, and while that's still relatively easy to do, it can be challenging for many home buyers -- especially those who are unprepared.
If you want to improve your odds of getting a mortgage with favorable terms, there are some steps you should take as soon as possible. While there's no quick and easy way to change your income or the length of your credit history, there are a number of things you can do before applying for a mortgage. Perhaps not all of them will work for you, but even if you can't fix a potential problem on your mortgage application, at least you will know about it going in.
When you apply for a mortgage, most lenders will want a standard package of materials. This almost always includes a month of recent pay stubs from any buyers who will be listed on the loan, as well as your most recent two years' worth of tax filings. In addition to having those documents, you should also expect to hand over at least three months of bank account statements, and you will need to have documentation to explain any unusual (generally non-payroll) large deposits or withdrawals.
Most lenders use what's called the 28/36 rule. That means your monthly payment on your mortgage must be no more than 28% of your gross income, and your total revolving debt payments -- including your potential mortgage, car loans, and any other monthly installment payments you make -- must account for no more than 36% of your gross income. That's not a hard-and-fast rule, and mortgage lenders may be more or less strict than that, but it's a fairly dependable guideline for figuring out your borrowing limits.
In some cases, the types of loans you can get depend on the market you're purchasing in and the type of home you buy. For example, in Florida, a state where many condominium projects have gone bankrupt, lenders have stricter standards. In many cases they will examine not only your finances, but also the finances of the building, and they may even require a 25% down payment.
There can be big variances from state to state and even region to region. In general, a real estate professional can help you understand the local lending standards and perhaps steer you away from certain types of properties.
One of the key factors in determining whether or not you will get approved for a loan and what rate you will pay is your credit score. It's important to know what your scores from the three major credit bureaus are, and you can get that information in a number of ways. There are paid services that offer a detailed report, and many credit card companies offer their customers free credit scores.
Once you know your credit score, there are a few things you can do to raise it. The first is to make sure there are no mistakes on your credit reports and dispute any problems if you find any. Second, if you have a balance that you can pay off, that will raise your score in most cases. Aside from that, there is little you can do on short notice other than to avoid opening new accounts, taking any new loans, or doing anything that requires a credit check (like getting a new cable provider or switching wireless carriers).
As mentioned above, lenders do not want you to have more than 36% of your gross income committed to revolving loans. One way to lower that ratio is paying off credit card debt, car loans, and any other loans you may have. In the case of a car loan, that won't save you any money, but it will make your financial health look better to the bank or other lending institution.
In nearly every case, a potential lender will want to see two years' worth of your federal taxes. They will also ask you to sign a release allowing them to verify the information with the Internal Revenue Service (IRS). That means you need to have filed your taxes for the current year, and of course, the documents you give your mortgage company must match what you sent to the IRS.
Even after you receive approval for a loan from a mortgage company, it will monitor your finances through the closing. This means that until the lender actually writes the check, everything you do matters. One of the easiest ways to sabotage your loan is to take on more debt before your mortgage becomes final. Even if you plan to finance furniture for your new house, you should not do so until you actually own the home -- and you should most certainly not buy a new car while waiting for a loan to close.
Lenders will also look for cash purchases, because they want to see that your bank account reflect the numbers you showed them when applying. In many cases that means they will ask to see new statements as they become available, and they will notice, and may take issue with, any big expenses.
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