How to Qualify for a Home Loan

March 30, 2020 · 6 minute read

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How to Qualify for a Home Loan

Buying a home is one of the most expensive purchases most Americans will ever make. As of September 2019, the average price tag for a new home was $362,700 . For many Americans, paying for a house in cash isn’t realistic.

According to the National Association of REALTORS® 2019 Profile of Home Buyers and Sellers , 86% of recent homebuyers relied on financing to complete their purchase.

The vast majority of buyers need to take out a home loan, otherwise known as a mortgage, in order to purchase a house. A variety of institutions offer mortgages, from traditional banks to credit unions to online lenders.

Some mortgages come with fixed interest rates, with terms ranging from five years to 50 (although 40 + 50 year term loans are not common place and can be harder to locate). Some mortgages offer adjustable rates which usually come with initial lower interest rates vs a fixed rate loan.

Other mortgages offer an “interest only” payment option, meaning the borrower has the option to pay only interest on the mortgage and not the principal portion for a certain period of time. Other home loan options available are insured by the federal government.

Interest rates for mortgages go up and down over time. If you’re wondering, “How much home loan can I qualify for,” it depends as many factors play into this figure, but there is a variety of online mortgage calculators to help get you started.

It can help to become familiar with the process and plan ahead before beginning the mortgage application process. What goes into qualifying for a home loan can be especially confusing. Here are some things that may come into play when qualifying for a home loan.

Your Debt-to-Income Ratio

When lenders are considering giving you a mortgage, they have to take into consideration your “ability to repay” the loan. One key way they gauge this is by looking at your debt-to-income ratio.

You can figure this out yourself by taking the total debt you currently pay each month (add your new estimated monthly housing payment including principal, interest, taxes and insurance) and divide that figure by your gross monthly income (before taxes).

For example , say you pay $1,500 a month for a mortgage, $100 a month for a car loan, and $400 a month for a student loan. Your monthly debt therefore comes to $2,000. If you make $6,000 a month before taxes and deductions, your debt-to-income ratio would be 33% ($2000 divided by $6000, multiplied by 100).

To qualify for most non conforming or Jumbo mortgages, you likely need an debt-to-income ratio no higher than 43% . For conforming loans (Fannie Mae/Freddie Mac), there are exceptions from the rule and in some cases the qualifying DTI can be as high as 50%.

If you’re realizing that your debt-to-income ratio is on the high side, you can work to reduce it by using strategies such as increasing your eligible income, adding a co-borrower or paying off some of your debts.

Keep in mind that the 43% figure isn’t set in stone for non conforming or Jumbo loans. Some lenders may choose to make an exception if they have made a good-faith effort to confirm that you’ll be able to repay the mortgage.

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Save for a Down Payment

Down payment requirements will vary depending upon the loan program you choose and other qualifying factors.

It’s generally wise to avoid emptying your emergency fund or retirement account just to have a bigger down payment, since those savings can be helpful to secure your long-term financial future.

The amount you need to save will likely vary based on the type of mortgage you’re hoping to get.

If you’re currently serving in the military or have done so in the past, you might be eligible for 100 financing with a VA loan from the U.S. Department of Veterans Affairs. In this case, you might be able to take out a mortgage without a down payment and also benefit from lower fees and/or interest rates.

Another option for those who aren’t able to save much of a down payment is to look into a Federal Housing Administration loan, which is also a federally insured mortgage.

Eligible homebuyers (do not have to be first time homebuyers); might qualify with a down payment of 3.5% depending on their credit score and other factors. Qualifications include things like being a legal U.S. resident, typically having a debt-to-income ratio of less than 43%, occupying the home as a primary residence, and being out of bankruptcy for at least two years, and more.

You’d likely have a hard time finding a loan program with 0% down in the private market, but, for first time homebuyers, there are conventional loans from Fannie Mae requiring as little as 3% down.

However, non first time homebuyers will need to put a higher minimum percentage down for a conventional mortgage, starting at 5%. If you put less than 20% down, the lender might require you to take out private mortgage insurance, or PMI. The purpose of PMI is to protect the lender, since the insurer will have to pay back part of the loan balance if you default.

To reiterate, you would pay for the insurance, but it’s the lender that’s protected. Since PMI can cost between 0.17% and 2.33% of the mortgage amount annually some would-be homeowners prefer to save 20% down if they can. However, it’s good to note that PMI is eligible to be removed from the housing payment on conventional loans once certain criteria is met.

Maintain a Decent Credit Score

In addition to your debt-to-income ratio, reviewing your credit score is another way that mortgage lenders assess your riskiness as a borrower.

This number is based on how you manage credit, such as how much debt you’ve taken out relative to available credit, the number and type of accounts you have, the average age of your accounts, and your history of paying bills on time.

It also takes into account negative events in your financial history, such as bankruptcies or outstanding judgments. A commonly used tool is the FICO® credit score, which is measured on a range from 300 to 850 .

The credit profile required to buy a house varies based on the type of loan program and other factors. For a conventional loan, a credit score of at least 620 is generally needed to get a mortgage.

For an FHA loan, you may only need a credit score of 500 if you put 10% down, or as low as 580 with a minimum down payment of 3.5%. The VA loan program doesn’t have a fixed minimum credit score, but points out that most lenders that offer VA loans have their own internal guidelines that usually look for a score above 620.

Show Proof of Income and Employment

Since the credit crisis the government has put guardrails in place for lenders to use when determining ability to repay.

These guardrails involve things like verifying ongoing eligible sources of income that the borrower will use to pay back the loan.

That’s why qualifying for most mortgages requires showing proof of employment and income. Standard with most loan programs is showing both a history and an ongoing source of income.

In most cases, the lender must be able to verify that the applicant has been employed for at least two years, and any gaps that are more than one month long must be explained. Applicants who are self-employed need to show proof of their income through last two years tax returns, profit and loss statements, and/or similar records.

As mentioned, lenders typically need to verify employment for the past two years, this helps to confirm that the income source used for qualifying is stable and reliable.

In some cases, let’s say if you just graduated with a degree in the same line of work that you have secured a job in, that degree may be used by the lender as history in the same line of work. If you haven’t been working lately or had significant gaps in your recent employment, you can discuss the situation with the lender.

Applying for a Mortgage with SoFi

If you’re in the market for a mortgage, taking out a home loan with SoFi comes with perks. You may be able to qualify for a loan with a down payment as low as 10% and SoFi offers Jumbo loans with No PMI requirement. With SoFi there are no application fees or pre-payment penalties.

You can choose from a variety of loan options, based on your needs, and apply for loans on a primary residence or second home. And if you’re eligible, you can get financing in about 30 days. It takes just two minutes to get pre-qualified online at no obligation—find out how much you may be able to borrow and what rates you might be eligible for.

Want to get pre-qualified for your dream home the painless way? See what your options are with a SoFi mortgage loan today.

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