Despite today's relatively low interest rates, it's not always easy to get financing. Lenders are
more cautious because of the problems they incurred in the '80s, and banks and other institutions are more stringent than ever about the qualifications of people applying for home loans. But with specific knowledge of what you can afford and how to make yourself a more desirable prospect, both house-hunting and securing a loan can be made easier.
It is not unusual for first-time buyers to be somewhat baffled about how to estimate what mortgage payment they will be able to handle each month, plus how much money they'll need for a downpayment and closing costs. That's why it is a good idea to get pre-qualified through a lender before you start to look for a home. Pre-qualification lets a buyer know exactly how much a lender is willing to loan them. Obviously, with pre-qualification in hand, the buyer can save a lot of timeand frustration.
Usually, pre-qualified buyers have an edge when making a purchase offer because the seller knows that there is at least one lender ready to make the sale happen. In a close market, sellers will prefer a pre-qualified buyer to one who hasn't started the process. For help in obtaining pre-qualification, buyers can consult a local realtor or lending institution. Your agent should be able to direct you to a lender that can help. In many cases, real estate brokerages now have lending companies in their office that will pre-qualify buyers. Pre-qualification does not obligate buyers to take the loan from the lender, nor should it involve any fees (until later, when actually applying for the loan).
When a lender pre-qualifies a buyer, they are more concerned about the buyer's ability to pay back the loan than the price of the property. For this reason, lenders are interested in more than just a buyer's income. They also want to know how much existing debt a buyer has, what his or her on-going financial obligations are and what the buyer's monthly budget looks like.
How Much Can You Borrow?
Lenders use an established debt-to-income ratio, usually between .28 to one and .38 to one, to calculate the amount of the loan they are willing to give to a buyer. For instance, a lender who uses a three-to-one debt-to-income ratio has determined that payments toward debt reduction, including existing debt plus new debt associated with buying a home, cannot be more than 30 percent of the buyer's gross monthly income. Using this formula, a buyer earning $100,000 per year, or $8,333 per month, would be able to carry no more than $2,499 per month in mortgage payments, maintenance fees and other loan payments combined.
An important factor that may influence a lender to authorize a loan with a higher debt-to-income ratio (where debt payments take a higher percentage of a buyer's income) is a larger downpayment. Buyers who put more down are considered better risks because the theory is that with more of a personal stake in the property, a buyer is less likely to default on the loan.
Buyers usually discover that the pre-qualification process will produce a home purchase price that is roughly two and a half to three times their gross annual income. This guideline is only a general rule of thumb, however, and it doesn't take a buyer's full financial situation into consideration. Since the lender's c ffb alculations will also consider a buyer's actual debts and on-going expenses, the loan pre-qualification amount may be higher or lower.
Bad Credit = Bad Prospect
Lenders look at two things in determining a buyer's credit-worthinessthe collateral, or the value of the property, and the buyer's financial ability to pay the mortgage. Much of their decision about the latter comes from your credit report. Numerous loans are turned down each day to buyers with faulty credit and a large outstanding debt. It's best to know your credit status before approaching any lender.
Copies of your credit report can be obtained by contacting the credit rating company (e.g. TRW) and requesting one. Review it, looking for discrepancies, outstanding balances, overdue accounts or other problems. If there is a problem with your report (e.g. excessive late payments) you may be able to have the report revised if you can supply a satisfactory reason for the problema death in the family, extended vacation, etc. Remember, there is more than one credit rating service to which lenders subscribe.
The most important thing to remember is to keep track of your credit and take care of any problem before the lending process begins. Remember, even if you are an all cash buyer, most co-op boards do an automatic check on all applicants and bad credit history may cause you to be refused entry into the building. If you do have credit problems, there are lenders who focus more on the collateral base involved in the loan transaction than on your credit rating. Your real estate agent may be of assistance in this area. The other option is a lender who requires a higher downpayment (40 percent or more) for those applicants who are a greater credit risk.
Remember, credit can be the biggest stumbling block in the home buying process, so be pro-active and take care of any problems before you begin the search for a home.
Ms. Gifford is senior vice president of The Prudential MLB Kaye International, Inc., a real estate brokerage company.