Top 6 Factors to Consider When Applying for Home Mortgages
Did you know that in 2020, US consumers carried an average of $208,185 in mortgage debt? That’s on top of all the other loans they had, such as credit card, personal, auto, and student loans. Mortgage debts, however, are still the biggest type of debt any person can take on.
After all, homes in the US now come with an average price tag of over $400,000. Very few people can pay that in one go. As such, the majority of home buyers end up applying for home mortgages.
So, if you have plans of buying a house and relying on financing yourself, it’s a must to prepare your finances. We listed the primary factors to consider when applying for a home mortgage in this guide, so be sure to read on.
1. Credit Score
In 2020, first-lien mortgage denial rates ranged from 6.1% to 17.2% in the US. There are many reasons for such rejections, but low credit scores were among the most common.
Credit scores matter in home loan applications since they indicate a borrower’s creditworthiness. Creditworthiness, in turn, is a lender’s willingness to trust a borrower to pay their debts.
So, the higher your score, the more creditworthy you are and the greater your odds of getting approved for a loan. More than that, a higher credit score can pave the way for lower mortgage interest rates.
For those reasons, it’s imperative to have at least a good credit score before you apply for a mortgage.
As of 2020, credit scores in the US averaged 710, which lenders regard as a good credit score. Good credit scores range from 670 to 739, while very good scores land between 740 and 799. Exceptional scores fall within the 800 to 850 range.
2. Total Earnings
Your earnings are the sum of all your income sources, from work to stock dividends.
Not only do you need to have enough earnings to pay back the home loan, but also a steady source of income. After all, mortgages run for years, so lenders want the assurance that they’d get their money back.
3. Debt-to-Income Ratio (DTI)
Your DTI is a ratio of your monthly debt expenses vs. your monthly gross income. Usually expressed in percentage, your DTI compares how much you owe to creditors vs. how much you make. Lenders for mortgages and other types of credit use this to gauge your repayment ability.
According to experts, most mortgage creditors prefer a DTI of under 36%. They also want borrowers to have 28% of that going toward their mortgage payments.
However, you can still apply and qualify for a home loan if you have a higher DTI. Just know that the higher your DTI is from their preferred range, the more likely you are of getting denied, too.
So, consider paying off loans, even the smallest ones, to help lower your DTI. By reducing your current debts, you have more leeway for your soon-to-be mortgage debt.
4. Down Payment
With such a huge amount of money involved in mortgages, most lenders require a down payment.
Before, the most widely accepted DP standard was 20% of the home’s price. However, this has gone down over the years, with estimates showing a median of under 10% over the last two decades. Lenders have even accepted down payments of between 5% and 6%.
In any case, it’s still a smart move to save up as much as you can for a DP before you send in your home mortgage application. That’s because the bigger your down payment, the less you’ll owe overall toward your home loan. Moreover, the larger your down payment, the bigger home equity you’ll start with.
5. Sale Price of the Home
The more expensive the home you want to buy, the bigger the ideal down payment you should save up for.
Aside from equity, this also reduces the amount of money you’d owe a mortgage lender. Moreover, the less you owe, the less you’ll pay toward mortgage interest, too.
The sale price can also influence the term you’ll choose, which is the length of time you have to pay back the home loan. The higher the home’s sale price, the more years you may need to pay it back, so you might have to go with a 30-year term. By contrast, you may be able to afford a 15-year term if you buy a home with a lower sale price.
All those sale price-related factors then ultimately affect your monthly mortgage payments. For example, let’s say you go for a lower-priced home and pair it with a big down payment and a 30-year term. In this case, you’ll pay less every month, as you took out a smaller debt divided into more monthly increments.
6. Type of Loan and Interest Rate
According to this website, the average rate on a conventional 30-year fixed mortgage is 2.625%. That goes down to 2% on a 15-year fixed mortgage. As for 30-year fixed-rate government home loans, the average rate sits at 2.25%.
Conventional loans have fewer requirements and are open to more applicants. They often don’t require insurance for mortgages, either, so long as the borrower makes enough of a DP. However, that also means most conventional loans require a higher down payment.
By contrast, government-backed loans have specific requirements as to who can apply. A perfect example is a Veteran’s Administration (VA) home loan. These VA-backed loans are only open to veterans or those on active duty.
The Federal Housing Administration (FHA) also offers government-backed mortgages. FHA-insured loans require at least a 3.5% down payment, which is lower than conventional loans.
However, the FHA has limits on how much money borrowers can get to finance their home purchases. Moreover, most FHA-backed loans come with FHA mortgage insurance. That’s part of the requirement that comes with making a down payment of less than 20%.
Keep All These Factors in Mind before Applying for Home Mortgages
Always remember that home loans help folks buy a house, which is one of the reasons 44% of Americans have a mortgage. However, they’re the biggest debts anyone can take on, requiring a long-term commitment. As such, be sure to prepare as much as you can before applying for home mortgages.
Start by boosting your credit score and lowering your DTI. From there, save whatever you can to make a bigger down payment.
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