Whether you have applied for a loan before, or it is your first time, the process can be confusing. The future of your new home lies in the hands of the bank, so it’s important for you to know what they are looking for when deciding whether or not they will give you a loan and how much they will lend to you.
Are you creditworthy?
Your credit score is the first thing the bank looks at when you apply for a loan; it determines whether or not you will be approved for a loan. Your credit score ranges from 350 – 850 and is based upon all of your past financial transactions, including, but not limited to:
- How much debt you have outstanding
- How much debt you have outstanding as a percentage of open credit accounts
- How much debt you have in the different types of credit accounts (credit cards, car loans, school loans, etc.)
- How well you’ve paid your bills over the years
How much can you get?
Once you have been deemed creditworthy, the next step is to determine the loan amount. The loan amount is based on the debt-to-income ratio and the loan-to-value ratio.
The debt-to-income ratio is essentially the percentage of your income that goes to paying off debt. The debt-to-income ratio is made up of two parts: the front-end ratio and the back-end ratio. You will see the overall ratio expressed as front-end/back-end.
The front-end ratio is the percentage of income that goes toward housing costs. The back-end ratio is the percentage of income that goes toward paying all recurring debt payments. Most conventional home loans have a 45% debt-to-income ratio.
The loan-to-value ratio is the percentage of money being borrowed to the value or purchase price of the property, whichever is less. As the loan-to-value ratio increases, the qualification guidelines for mortgage programs become much stricter. Lenders can require borrowers with a high loan-to-value ratio to buy mortgage insurance to protect the lender from the buyer default, which increases the costs of the mortgage. Anything above 80% is considered a high loan-to-value ratio.
When applying for a loan, do not forget to do research and ask questions. It is a lender’s job to understand the loan process and he/she may not automatically explain every term. If you take the time to learn the above terms and understand the rest of the loan process, you will be able to make the best possible decision when it comes to selecting your home loan.
Here at Roger Fazendin, we are also happy to recommend lending officers for you to chat with in order to get more information or understand the home qualification process. Best of luck!