There is one question I get asked all of the time by people— including family and friends. And that is, “ What do I need to qualify for a mortgage?”
So today, I’m hoping that I can help clear up some confusion and point you in the right direction.
It’s no secret that unless you happen to be swimming in a pool of gold coins like Scrooge McDuck, you don’t just go out and decide to buy a home on a whim. Likewise, you don’t just wake up one day and say, “I’m going to apply for a mortgage today”.
Buying a home is the single largest purchase many people will ever make in their lifetime. Millions of people in America have the dream of owning their own home. But, impulsive decisions and little-to-no planning can—at best—cause them to spend too much money, and at worst, disqualify them from receiving a loan altogether.
So what do you do?
You plan.
Planning
The truth is, planning takes time. And, if you’re here reading this, you’re already on your way to making the right moves to achieve your goal. The first step in any new endeavor is to ask “how”.
“How can I do this?”
“What steps do I need to take to make this dream a reality?”
That question, “How?”, is exactly what I hope to help answer. So let’s get started.
1. Employment
When lenders are looking at mortgage applications, they tend to look for a few different things. The first and possibly most obvious? Employment.
While this isn’t a hard and fast rule, most lenders like to see at least 1 year of continuous employment in the same industry. This does have the potential to leave the door open for you to switch employers; so long as there is no gap in employment, you are in the same industry, and you don’t take a pay cut. In fact, if you receive a pay raise that actually has the potential to look better.
Keep in mind that policies on this vary from lender to lender, so check with your loan officer to be sure.
2. Credit History
You probably already know this, but in general lenders like to see that you have a good credit history. It’s a good rule of thumb to aim for a median credit score of 700 or more. If you find that you’re not quite there yet or that you don’t really have any credit history at all, now is the time to get started.
Spend the next year (or more) building or rebuilding your credit. If you haven’t had a card before, try opening a secured credit card. Be sure to pay your balance off every month and don’t miss any payments. If you already have a credit card but you’re carrying a balance, pay it off as soon as you can and don’t miss any payments. This should have a dramatic effect on your credit score.
Quick little side note here:
If you are 6 months or less away from applying for a mortgage, DON’T APPLY FOR ANY NEW CARDS OR LOANS. This will almost certainly get you denied for a mortgage or, at the very least cause you to receive a much higher interest rate.
3. Proof of Income
After the financial crisis of 2008, this one seems like pretty much a given. Long gone are the days of stated income loans. Lenders want to actually see proof that you make as much money as you say you do, so that they know for sure that you can actually afford to make the mortgage payment. They won’t just take your word for it.
Proof of income may be requested in copies of tax returns, 3 to 6 months of pay stubs, or your W-2s. As always, requirements may vary, so check with your lender.
4. Down Payment
You may be a little surprised I didn’t mention this earlier, but here it is.
Often considered the biggest hurdle to home ownership is the required down payment. Still, I think a big reason that many people think they’ll never have enough money for a down payment is actually because of a giant misunderstanding.
For years, possibly decades, there has been a persistent rumor that you HAVE to have a 20% down payment to get a loan. This is a blatant lie. You can put as little 3.5% down on a home with an FHA loan and you can put as little as 5% down on a home with a Conventional loan. This opens the door to home ownership for many people who otherwise wouldn’t be able to afford it at all.
Still, with the median price of homes in the United States hovering around $400,000, that’s thousands of dollars that are needed for a down payment. Actually, fourteen -thousand if you are working with a 3.5% FHA loan.
But, don’t let the big numbers scare you. This is still achievable with a multi-pronged approach. First and foremost, creating a budget and following it will help you begin saving for your down payment. With the recent increases to the Federal Funds Rate, interest rates are increasing for savings accounts too. Opening a high-yield savings account can help you earn more money in interest on the cash that you’ve saved for your down payment.
If your employer offers a 401k, you should be maxing out your contributions and taking advantage of any employer matching program. You’ll want to talk to a financial professional about this, but it is possible to borrow money for first-time home purchase. You will need to pay it back at some point or you may face penalty charges.
Finally, there are many down-payment assistance programs offered by state and local governments. There are also down payment assistance grants and scholarships offered by nonprofits and private organizations. You’ll want to do a thorough search of what resources are available to you in your area.
5. Proof of Funds
It’s not just enough to say that you have a down payment. Just like lenders want to see that you have proof of consistent income, they want to see the proof that your down payment exists too. They also want to make sure that it didn’t just appear out of nowhere.
To do this, lenders will ask to see bank statements and they’ll have their forensic accountants look over them. This process is called sourcing. Lenders want to be able to trace back the source of your funds to prove that you really came up with this money on your own, and that it wasn’t criminally laundered.
A good rule of thumb is to also make sure that your down payment funds are “seasoned”. All this means is that much like a good marinated steak, your funds have stayed still, untouched, and seasoned for a set period of time. Lenders usually like to see a minimum of three months or more, but again this can vary.
6. Gift Letter(s)
It’s not uncommon for first-time home buyers to receive down payment funds as a gift from relatives. If this happens, those funds cannot be sourced or seasoned, so your lender may want you to give them a “Gift Letter” explaining that the money was given to you as a gift. It should be written, signed, and dated by the person who gifted the money to you.
7. Rental History
Don’t be surprised when lenders ask about your rental history. Just like when you’re applying for a new apartment, your rental history will be used as an indicator to determine if you are risky to lend to or not. A good solid rental history can show lenders that you are capable of making your mortgage payments on time.
8. Identification
Short and simple: Lenders need to see your identification to prove that you are who you say you are. They want to make sure that there is no fraud being committed, and that there is no identity theft being attempted. I’d say that’s a plus for everyone involved.
Outro
So that’s the 8 things that you’ll need to qualify for a mortgage. Mind you, this is by no means a definitive list. Your lender may request more or less from you, but it’s your job to make sure and ask them exactly what they need.
Buying a home is a big deal, so I also highly recommend seeking out the help of a real estate professional or lawyer. It’s always a good idea to have a team of professionals in your network who are able to help you when you need them to.
Sources:
*My own personal experience. 😉
https://myhome.freddiemac.com/blog/homeownership/20171204-4Cs-qualifying-mortgage
https://www.creditkarma.com/home-loans/i/home-loan-documents
Oh Hey, It’s Ray is a real estate investor, entrepreneur, and former real estate agent. She lives happily with her husband and two children in the Pacific Northwest. See more from Ray at her YouTube channel and on Ohheyitsray.com