There are 4 main factors underwriters use today to determine mortgage approval. These factors help a mortgage underwriter understand the borrower’s qualification level.
The first factor known to the American population is called the “credit” criteria. Credit scores can help determine your level of risk for interest rates and private mortgage insurance (PMI). Credit scores over 720 will help you receive the best interest rates, and credit scores over 620 will help you avoid high PMI payments. FHA home loans have no credit score requirements, but do look at ‘creditworthiness’. Creditworthiness consists of how long business lines of credit have been open, number of business lines of credit, bankruptcies, foreclosures, judgments, and mortgage arrears. Many borrowers get over 700 credit scores after filing bankruptcy two years ago! Each mortgage lender looks for 3-5 commercial lines of credit that have been open for at least 24 months. Excellent credit consists of 5-7 business lines that have been open for at least 4 years or more.
The second factor looked for is called ‘capacity’. Capacity is how much a borrower earns in income compared to their monthly debt obligations. It also consists of the employment history if it is stable or will be continuous. Self-employment income requires two years of business tax returns with all calendars. All commissions, bonuses and overtime must have been received for two years and averaged over two years. If these guidelines are not met, they will not be included in the borrower’s income. Income earnings can be verified by the last 30 days of pay stubs, the last two years of W-2 forms, and the last two years of completed tax returns. Alimony, child support, social security, and disability should have been received within the last 3 months and have a 3-year rollover period.
The third factor used in approving a mortgage is called ‘capital’. Principal is the amount of “liquid assets” a borrower can have to cover a down payment, closing costs, and monthly reserves. Liquid assets consist of checking, savings, 401k, IRA, stocks, bonds, mutual funds, and certificates of deposit. The amount used for the 401k is 70% of the ‘vested balance’ minus any loans held against you. Down payments can help lower your interest rate by lowering your loan-to-value (LTV) ratio. FHA home loans require a 2.25% down payment, and conforming loans have 5, 10, and 20% down payments. MyCommunity and HomePossible mortgages are no down payment programs, but will require a credit score of 620 to avoid high PMI payments.
The last factor used in the mortgage approval process is called ‘collateral’. The Collateral factor analyzes the property that is the object of the mortgage loan. Mortgage rates can take a price hit because the property in question is a high-rise condo, co-op, unsecured condo, second home, investment property, timeshare, rural area, log cabin, and if there are no comparable homes in the area. Most appraisals require at least three comparable homes to find the value of a subject property.
