So you are going to buy a house. They say you haven’t achieved the American dream until you have purchased your first home. It can be a tricky process, especially if you’re like many people these days and your credit is not what it used to be, and neither is your bank account. The good news is, you can still buy a house. Here is what you need to do before you begin calling lenders for financing.
Get your Ducks all in a Row
The first thing to do is to figure out how you are going to qualify for the mortgage with respect to showing income. Do you have enough W-2 income, or is your income W-9? If you don’t have enough verifiable income you may want to consider using bank statements in lieu of traditional ways like the W2. If that still does not look like it will work, some lenders still offer limited doc, or stated income programs, although they have put more restrictions them than there were before the real estate bubble burst. It’s important to communicate with the person who is putting together your loan package. The more he knows about your financial situation the better he will be able to assist you. This is especially true when you are submitting a non-prime loan. If your loan is packaged (put together) one way it could be turned down, whereas if it were put together a different way it would get approved. Help your broker or loan officer help you. The more you are educated about the process the easier it will be to put together a loan that works best for you.
Take this for example. Your bank or other lender will always use the primary borrowers credit score to base what interest rate you will be getting. This is important to know ahead of time. Whoever makes the most money will always be considered the primary borrower. That causes problems for some people. Sometimes it’s the wife who has stellar credit, but her husband makes the most money. If the husband’s credit score is 520 and the wife’s is 700, that’s a problem. Of course you’d like to use the higher score but it just doesn’t work that way, and knowing that may save your loan.
Debt to Income Ratio
File this one under, getting your ducks in a row, as well. Your debt to income ratio, or debt ratio (DR) is calculated by dividing your monthly debts by your monthly household income. That percentage number is your debt ratio for short. For prime borrowing, that number usually cannot be over 40-45%. For non-prime borrowing there is more leeway. Some lenders will let you go as high as 55%. When you are calculating your DR you don’t have to consider every bill you pay. The things you do have to count are the following:
- Installment Loans (like auto loans)
- Revolving Debt (credit cards)
- Student Loans
- Court ordered payments like alimony or child support
- Other House Notes (If you have a second home you have to include the mortgage payment)
Here are the things you may pay on a monthly basis, but do not have to use for your debt to income calculation.
- Cell phone bills
- Food Bills
- Utilities (Depends on the Lender)
- Cable bill
Keep in mind, some of that may vary from lender to lender.
Pre-Qualification or Pre-Approval
If you have determined to the best of your ability that you have the verifiable income, and a high enough credit score to purchase a house, it’s time to get a pre-approval or pre-qualification letter. What’s the difference?
- Pre-qualification Letter: This is where you give your bank or lender your overall financial picture. Things like how much you make, what your bills are, what your assets are, things like that. This can usually be done over the phone and a letter can be drafted and emailed or faxed to you that same day. This is not a sure thing and doesn’t even take into account your credit or you debts to income ratios, and does not hold as much weight as a pre-approval letter.
- Pre-approval Letter: This one is much more involved. You’ll need to fill out a mortgage application and give permission for them to pull your credit. They will check your finances, calculate your debt ratio, see how much you can afford to pay, how much you can be loaned, and in some cases you will get exact loan figures including the interest rate you will be getting and the monthly payment. With the pre-approval letter any offer you make will be taken seriously because the seller knows you will get financing to buy the home.
Always be Prepared
The key to being able to purchase a home and having everything fall apart many times depends on your advance preparation. This is especially true when it comes to non-prime lending where everything is much more complicated. The more you know about the process the better you can assist your broker or mortgage professional who is working with you. It’s your life, don’t leave it up to someone else.
Leslie Stevens is a professional blogger that enjoys discussing real estate topics. She writes for Lindaagary.com, a leading Realtor in Palm Beach, FL.