Home ownership is a core component in establishing and living the American Dream. For most people, the ambition to acquire their own home is their most important goal, surpassing all others, and it is the primary influence and motivation for how they conduct their business, financial, and personal lives.
Most people will have to finance their home ownership by obtaining a home mortgage from a lending institution. The purpose of this article is to guide a potential home owner through all the steps that must be taken in order to qualify for a home mortgage loan.
Finding the Right Home for You
Before a prospective homeowner can begin the quest towards purchasing a home, there are many factors to consider, most of which are determined by some basic facts and assumptions. How big is your family? What neighborhoods are you willing to consider? Are schools a factor? Is a single-family home a requirement or is a condo an option? Based on your income and assets, what kind of home can you afford?
For some home buyers, living in a specific neighborhood takes precedence above all else, whereas for others, the home itself is more important. In a perfect world, you’d find the ideal home, in your neighborhood of choice, at a price you can afford, but realistically, most people will have to make some compromises.
Make a list of the features you want in a home–number of bedrooms, a fenced yard, granite countertops, a garage, etc.–and then rank them in terms of priorities. Decide whether the house or the neighborhood matters more to you, or whether you’re willing to make a longer commute in order to own a home with a larger lot. These kinds of decisions need to be made before beginning the search for your new home.
Saving for a Down Payment
Nearly all mortgage loans and lenders require some amount of cash as a down payment. The amount you've set aside for this will determine the kind of mortgage you qualify for. It will also impact how much you can afford to borrow for a home.
Most lenders prefer a down payment of 20% or higher to qualify for a conventional loan, but there are loan options where you can put down less. However, you should be aware that with a smaller down payment, you’ll likely be required to pay for mortgage insurance, and your loan application will be subject to greater scrutiny.
Here are several loan types that allow a smaller down payment amount:
- FHA: The Federal Housing Administration offers 3.5% down payment mortgages through participating lenders. FHA loans are also easier to qualify for and have slightly lower rates than conventional mortgages.
- GSE-backed loans: Fannie Mae and Freddie Mac are both currently insuring 97% loan-to-value loans. That enables lenders to offer 3% down payment mortgages to qualified buyers.
- USDA: Home buyers in rural and suburban areas may be able to qualify for home loans offered by the U.S. Department of Agriculture. USDA loans offer low rates and 100% financing.
- VA: Eligible veterans, as well as active duty service members and their families, can qualify for Veterans Administration loans. A VA mortgage requires no down payment or mortgage insurance.
There are all kinds of online calculators that can help you determine what your down payment amount will be based on the type of loan, the price of your house, your location, and credit rating. Here’s one calculator from smartasset.
By this point, you should have a pretty good idea about what kind of home you’re looking for, and the neighborhood you’d like to live in. You also know how much you've saved for a down payment, which in turn will determine the type of loan you should pursue.
The next step is to get pre-qualified for a mortgage loan. In order to do this, you will have to select a mortgage lender to work with and obtain your loan. Essentially, mortgage pre-qualification is a promise from the lender that you’re qualified to borrow up to a certain amount of money at a specific interest rate, subject to a property appraisal and other documentation.
In today’s competitive housing market, it is not uncommon for a seller to receive multiple offers on their home. Having a pre-qualification letter in hand could be the difference in your ability to purchase the house you desire. This proves unequivocally to the seller that you are serious, and provides you with bargaining power which is likely to give you an advantage over other buyers.
Finalizing a Mortgage Loan
Let’s assume you have found your dream home with a realtor’s assistance, made an offer, and it has been accepted. Now you must go back to your lender to do what is required to finalize the loan you’ll need to buy the house.
Here are the key areas that a mortgage lender will examine in order to qualify you for a mortgage loan–credit, income, assets, and debt.
Your credit is one of the most important things that will be considered when determining if you qualify for a home loan. To do this, a lender will look at the length of your credit history, how reliably you’ve paid on your loan accounts, and if you’re maxed out on credit cards or loans.
Another factor is your debt-to-income ratio. This is simply your fixed expenses, including your new mortgage, as compared to your gross monthly income.
Lenders typically like to see someone who spends less than 50 percent of their gross monthly income on fixed expenses, which include mortgage payments, property taxes, association dues, home owners insurance, car loans, student loans, credit cards, and any other fixed payments that would show up on your credit report.
Lenders also verify that the funds you are using for your down payment are in a liquid account, such as a checking or savings account. They need to know the origins of all the funds that are being used in your transaction.
Finally, lenders will also want to see a stable employment history and will verify your past two years of work.
Qualifying for a mortgage loan in order to buy a home can often be a stressful and strenuous process. In the end, the pride, security, comfort, and freedom that comes from owning your own home makes all the effort worthwhile.