Determining if the borrower qualifies for a mortgage is determined by a wide array of different variables.  These variables often vary (and many times will vary considerably), depending upon the type of mortgage that the client wants or that you can qualify for.  Before saying “YES!” a lender will look at the following items:

• each applicants’ monthly income and expenses

• each applicants’ credit history

• the property appraisal

• source of funds for the down payment and closing costs

• each applicants employment history  

Monthly Income and Expenses

The first question the lender tends to solve for is “Can the borrower afford the monthly payments on this new mortgage?”  To find the answer, the lender examines your current income and expenses plus the cost of the new mortgage and apply them to payment ratios to see if you are within the particular spending guidelines for that particular loan program.

The first payment ratio is called the “Monthly Housing Ratio” or commonly referred to as the front-end ratio.  This ratio is the total monthly mortgage payment (PITI—principal, interest, taxes and insurance) divided by your total gross monthly income (i.e. before taxes).  This tells the lender exactly what percentage of your income will be used to pay your new mortgage.

The second payment ratio is called the “Debt-to-Income Ratio” or commonly referred to as the back-end ratio.  This ratio is the total monthly mortgage payment (PITI) plus the sum of the minimum payments required on your credit cards, charge cards, car loans, student loans, installment loans, child support paid, alimony paid and other credit obligations divided by your total gross monthly income.  This tells the lender what percentage of your income will be used toward your total credit obligations.

It is important to also remember that these ratios do not take into consideration the borrowers normal living expenses—i.e. food, utilities, gas and automobile maintenance, entertainment, car insurance, etc.  As a rule of thumb, your monthly housing ratio should not exceed 28-33% and your debt-to-income ratio should not go beyond 36-38%.  Sometimes exceptions can be made for a borrower with higher than normal ratios IF you can demonstrate your ability to carry a higher mortgage payment (e.g. you have paid on time for the past two years a substantially high rent payment that is comparable to your proposed mortgage payment).

As stated before, the lender must know your income before he or she can determine your ratios.  For all applicants, whether or not married, your monthly income includes:

• gross monthly salaries

• commissions (using a two year average)

• bonuses (using a two year average)

• investment income (two year average and does not include dividend re-investment plans)

• pension or trust income (must be able to prove a three year continuation in the future)

• alimony and/or child support (that is received not paid out each month and be able to prove that it will continue for at least the next three years)

It is important that the monthly income does not include anticipated raises or unsubstantiated estimates of future commissions and bonuses (even though this can be a strong compensating factor).  It also does not include investment income on accounts or assets that will be used for your down payment.

Credit History

The second issue the lender looks at is credit by asking the question “Have the borrowers repaid your past debts in a timely fashion?”  The lender finds this out during the pre-qualification process by pulling an “in-file” credit report.  Also, credit history is established by ordering a residential mortgage credit report (RMCR) that is submitted with the loan package.  A RMCR differs from an in-file credit report in that it is a merged report, pulling from a minimum of two credit repositories, verifies accurately the current balances and payments of all of the borrower’s reported credit obligations and typically the company we order the RMCR from interviews you and verifies from you the information reported by the credit repositories.

The payment history reflected on the RMCR is of critical importance for it shows how many times you were more than 30/60/90+ days late in making your required monthly payments.  It also shows your usual payment patterns, whether you always pay on time or are usually late.  In addition, it normally reports any judgments, liens (tax, mechanics, etc.) bankruptcies, divorces and other public record information. 

It is vitally important for you to disclose any known or possible credit problems to the lender as soon as possible.  Typically the lender can work around bankruptcies, foreclosures or other problematic situations if properly explained and documented.  However, failure to disclose credit problems or answer all of the related questions on the mortgage application is a sure fire way to be automatically denied for a loan.

Property Appraisal

The third question the lender asks is “How much is the property worth?”  An appraisal is necessary to establish the value of the property.  This is ordered by my loan processor after application and it not only establishes a value on the property but reports on:  detailed information regarding the subject property, marketability of the home and neighborhood, obvious construction problems or defects with the house and other factors that affect the value of one’s home.  

Source of Cash for Down Payment and Settlement Costs

The fourth question the lender asks is “Do you have enough money to close the sale and where are you getting it?”  One of the steps during the verification process is to ensure that you have enough money to close on the home by verifying bank deposits, getting sufficient gift letters for the down payment or other written evidence of funds.  The following is a list of acceptable sources of funds:

• checking and savings accounts

• borrowed funds (against a secured asset—i.e. a car, CD’s, real estate, life insurance, etc.)

• earnest money deposit

• gift funds (if it does not have to repaid)

• IRA’s and Keogh Accounts

• sale of assets

• stocks, bonds, trust accounts or other investment accounts

However, the lender cannot accept the following as acceptable sources of funds:

• cash on hand

• proceeds of a personal or unsecured loan

• a gift that must be repaid in full or in part

• cash advance on a revolving charge account or unsecured line of credit

• cash for which the source cannot be verified

Employment History

The final question the lender asks is “Will your future income be stable enough to meet the required monthly mortgage payments?”  Ideally, the lender look for a two year history in a profession (not necessarily with a particular employer).  Frequent job changes, spotty employment history or unstable employment may cause us to go through extra hoops in order to prove your future job stability.