Qualified or Not? How Lenders Qualify Buyers
So, the lender just looks at your credit score and decides whether to give you money, right? Wrong. Loan officers and underwriters use careful processes, analyses, and ratios when deciding whether and how much to loan to a home buyer. The lender is taking on significant risk giving hundreds of thousands of dollars to a borrower secured by a specific piece of property, which the owner must maintain. Lenders not only want to know how much money a buyer has, makes, and owes, they want to determine the likelihood that the buyer will pay the mortgage payments on time. Loan underwriters approve or deny a mortgage loan application based on an evaluation and layering of three factors:
- Income and assets: Determine the borrower’s ability to repay the loan.
- Credit: Determines the borrower’s willingness to repay the loan, looking at current credit use, how the borrower treated obligations in the past, and the borrower’s creditworthiness.
- Property: Determines whether the property is adequate collateral for the loan.
- The loan application. The borrower first meets with a mortgage broker or loan officer to fill out the application.
- Within 3 days of applying, the lender must provide the buyer with the Loan Estimate, which states loan terms and settlement charges.
- After the application is filed, its information is checked: For example, the salary and employment information is checked against the Verification of Employment Form sent to the applicant’s employer.
- The loan officer will then order an appraisal of the property.
- This package—the verified application and the appraisal— is sent to the underwriter.
- The underwriter analyzes the buyer’s creditworthiness and the property’s suitability as collateral to qualify the borrower and the property.
- After loan approval, the borrower receives a commitment letter with mortgage loan specifics.
- Three days before the closing, the borrower should receive from the lender the Closing Disclosure form, which details the final, actual loan costs.
- Income: The underwriter looks for a verifiable, two-year employment history, including a consistent working pattern as indication that the applicant’s income will continue.
- Credit: Credit reports, issued by one of the three credit reporting bureaus, Equifax, Experian, or TransUnion, contain detailed information about a consumer’s credit history.
- Source of funds: Buyers should already have some cash on hand often from a variety of sources including liquid assets, gifts, and retirement vehicles.
- Debts: The underwriter looks at two ratios to determine whether that applicant can make the monthly mortgage payments: the housing-expense-to-income ratio and the total debt service ratio. Housing expense is the “PITI payment” (Principal, Interest, Taxes, and Insurance). The total debt service ratio is (PITI + all long-term debts) ÷ gross income.
- Net worth: A person’s net worth is all of her or his assets minus all liabilities.