Purchasing a home and conquering financial responsibility is a goal for many of us. Making this leap to homeownership is a big step, and it’s one that should be taken with careful consideration.
When I first meet a potential customer, I always preface the conversation by letting them know that securing a mortgage isn’t a walk in the park — and certainly not what most consider to be “fun”. There is also a lot of confusing jargon such as “points,” “escrow,” and “prepaids,” and funny names like Freddie Mac and Fannie Mae.
Making sense of everything can leave you on the verge of frustration, but don’t worry — this is a completely normal feeling.
To that end, let’s kick off the new year and go over some mortgage basics.
A mortgage is a loan that enables you to cover the cost of a home. You pay back the loan over a set period of time. It’s essentially a huge IOU.
Mortgage borrowers can be individuals or businesses.
Every mortgage situation is different, so there’s really not a one-size-fits-all list of requirements or loan program. Talk to your local and trusted lender to discuss the mortgage that’s right for your specific scenario.
When you talk to a lender about payment, you want to ask for the PITI or total monthly payment. This is your Principal (balance of loan) + Interest (cost to have a loan) + Property Taxes + Hazard Insurance
There are two types of costs associated with a loan: “Prepaids” and “Closing Costs”
Closing costs include the origination charge (fees or the cost to do the loan), discount points, and out-of-pocket expenses (third party fees for appraisals, credit report, deed recording, etc.). Prepaid items include homeowner’s insurance, taxes, deposits for establishing an escrow account and in some cases, mortgage insurance (MI). Some borrowers prefer to establish an escrow account and pay property tax and homeowners insurance monthly instead of paying the entire amount at once.
The 5 C’s
Lenders use the “5 C’s system” to gauge a borrower’s creditworthiness or ability repay a loan
Credit: Lenders evaluate your credit score to ascertain whether or not you have a good track record, pay your bills on time, and use credit wisely
Conditions: Lenders want to know how you are going to use the money
Collateral: The value of your collateral (i.e. cars, real estate, etc.) will be evaluated, and any existing debt secured by that collateral will be subtracted from the value
Capacity: Lenders analyze your income and employment history to determine if you have the ability to repay your mortgage
Capital: Capital represents the savings, investments, and other assets that can help repay the loan
Which mortgage is right for you?
Conventional: A loan that is not backed by an agency of the government such as VA or FHA; can be conforming or non-conforming
FHA: A loan that is insured by the government
VA: A loan that is guaranteed by the United States Department of Veteran’s Affairs (VA)
Conforming: A loan that does conform to the guidelines set by Fannie Mae and Freddie Mac
Non-conforming or Jumbo: A loan that does not conform to the guidelines set by Fannie Mae and Freddie Mac; the guidelines and requirements are stricter compared to conforming loan products
USDA: USDA Rural Development loans are designed for families in rural areas; the government finances 100% of the home price; income limits and zip code are taken into consideration
Reverse: If the borrower is of age 62 or older, they can convert a portion of their equity in their home into cash
Fixed vs. Adjustable
Fixed-rate and adjustable-rate are the two most common loan types for buying or refinancing your mortgage. Both are available for conventional conforming loan amounts, jumbo or non-conforming loan amounts, USDA, FHA and VA.
Your interest rate and monthly principal and interest (P&I) payments remain the same for the life of your loan. You may be able to add extra features such as temporary payment reductions. Predictable, adds protection from rising interest rates, a good choice if you plan on keeping the home for a long time. A fixed rate is always my recommendation.
Your interest rate and monthly principal and interest (P&I) payments remain the same for a defined initial period, then adjust annually when the initial period is over.
Copy of Driver’s License
For any property owned: mortgage statements, tax bill and insurance
Paycheck stubs for last 30 day period
Last two years of W2s and/or 1099s
Last two years of federal tax returns (all schedules)
Two months of complete asset statements (checking, savings, 401k, disability, pension, etc.)
*If you own a percentage of your company, additional documentation may be required
What to do and not do during the loan process
Notify me if you plan to receive gift funds
Notify me of any employment changes
Make timely payments on all current debt obligations
Keep me and your real estate agent involved in the process
Respond to emails and document requests immediately
Close or open any accounts; don’t transfer funds between accounts
Change jobs or quit
Deposit large sums of monies outside of your payroll, etc.
Make major purchases (i.e. new car)
Change your legal name
Advance any cash from credit cards
Beating the Clock: Timeline of the Loan Process for a Home Purchase
Step 1: Call me to get preapproved — a preapproval shaves precious days off your timeline. As soon as I have your documents, I can issue a preapproval (a preapproval is more valid than a pre-qualification!)
Step 2: Loan Application
Step 3: Finding a home
Step 4: After your offer is accepted, you are in “escrow” and that’s when the clock starts ticking
Step 5: Home inspections
Step 6: Appraisal
Step 7: Final loan review and approval
Step 8: Sign, fund & record — the house is yours!
There are a few things to get squared away before applying for a loan: 1) Cash for a down payment; 2) A good working knowledge of your personal finances; and 3) A general idea of the price range of homes you are interested in. Research potential homes through a local Realtor.
Any good lender should review the basics either before or at the time of your application. If you live in California, feel free to contact me for a complimentary financial review.
Thanks for reading!