What to Watch Out For When Getting A Mortgage

Review Your Financial Situation

Before you start house hunting, take a close look at your financial health. This involves understanding your income, expenses, savings, and debt. Here’s what you need to do:

• Calculate Your Debt-to-Income Ratio (DTI): Lenders use your DTI ratio to assess your ability to manage monthly payments. Aim for a DTI ratio below 36%, but know you can have a higher DTI and still qualify for a loan. Generally, your DTI is calculated by dividing your total monthly debt payments (credit card payment, student loan payment, car payment, etc) by your gross (pre-tax) monthly income and multiplying by 100 to get a percentage.

• Build Your Savings: Ensure you have enough savings for a down payment, closing costs, and an emergency fund. While there are programs that offer financial assistance, if you were to buy a home without any of those, you may need around 5% - 8% of the home's purchase price minimum, even if your down payment is only 0% - 3%.

• Check Your Credit Score: Your credit score impacts the interest rates you’ll be offered. Aim for a score of 720 or higher to secure the best rates, though you can absolutely get a loan with a much lower credit score. Your loan officer can give you tailored advice on what you should do in order to get the biggest bang for your buck when trying to increase your credit score.

• Paying Off Debt: Sometimes using a lump sum to pay off a debt isn't actually the best call. Depending on how much monthly debt gets calculated on your credit report, it may be better to use that money to pay off a different debt or put towards increasing your down payment. Consult with your mortgage lender before making any large debt payoffs.

Understand the Impact of Hard Credit Inquiries

When you apply for a mortgage, lenders will perform a hard credit inquiry to evaluate your creditworthiness. Here’s what you need to know:

• Temporary Dip in Credit Score: Hard inquiries may cause a temporary drop in your credit score, but not always. Multiple inquiries for the same kind of debt (in this case, a mortgage) in a short period (typically 30-45 days) are often treated as a single inquiry, minimizing the impact. But if you get your credit pulled for a mortgage, a new credit card, and to finance a car all at the same time, that can be detrimental to your credit score.

• Timing Matters: Try to avoid applying for new credit (like credit cards or auto loans) before and during the mortgage application process to keep your score as high as possible. Also, if you have just finished paying off a debt, your credit report may not reflect that for up to 30 days, so pick the right time to pull your credit.

Keep an Eye on Pre-Approval Expiration

A mortgage pre-approval is usually valid for 60-90 days. Here’s why it’s important to be mindful of the expiration date:

• Update as Needed: If your pre-approval expires before you find a home, you’ll need to reapply, which might involve another credit check and updated financial documentation. Ask your lender for clarification on what they will require to issue you an updated pre-approval letter.

• Stay Informed: Maintain communication with your lender to understand the steps required to renew your pre-approval so you don't get caught out when trying to submit an offer by being unprepared.

Be Aware of Hidden Fees

Hidden fees can add up quickly and impact your budget. While some, like origination and processing fees, vary by lender and can be negotiated, others, such as title fees, are set by third parties. Lenders provide estimates, but final costs may change closer to closing. Here are some common fees to watch out for:

• Application Fees: Some lenders charge a fee to process your mortgage application.

• Credit Report Fees: You may have to pay for your lender to pull your credit report.

• Origination and Processing Fees: These cover the lender’s costs for processing the loan and can range from 0.5% to 1% or more of the loan amount. These are typically paid at closing.

• Inspection and Appraisal Fees: These are essential for assessing the property's condition and value. These fees are paid after you are under contract but before you close.

• Closing Costs: These can include attorney fees, title insurance, and recording fees, typically amounting to 2-5% of the loan amount. These are paid at closing.

Maintain Stable Employment and Income

Lenders prefer borrowers with stable employment and consistent income. Here’s what to consider:

• Job Stability: Avoid changing jobs during the mortgage application process. Lenders look for at least two years of steady employment in the same field. If you do plan on changing jobs, you will need a detailed offer letter from your new employer, and should ideally continue working in the same field.

• Document Your Income: Gather pay stubs, tax returns, and bank statements to provide proof of income.

• Sourcing Funds: Typically, any cash deposited into your account cannot be considered in the mortgage process unless it has been "seasoned" which usually takes at least six months or requires a detailed paper trail. That means if you've got money in your mattress, make sure you put it in the bank well in advance of the home buying process.

Avoid Large Purchases and New Debt

Large purchases and new debt can affect your credit score and DTI ratio. Here’s why it matters:

• Keep Finances Steady: Avoid major purchases like cars or furniture until after your mortgage closes. Don't get excited about your new home and buy a sofa before you move in, because the big charge may send up a red flag.

• Limit Credit Card Usage: High balances can negatively impact your credit score and increase your DTI ratio. Do not open a new line of credit either (that includes store cards, CareCredit, etc).

Prepare for the Down Payment and Closing Costs

Having sufficient funds for your down payment and closing costs is crucial. Here’s how to prepare:

• Save Diligently: Set aside a portion of your income specifically for these costs and start as soon as you can.

• Understand Down Payment Requirements: Different loans have different requirements. Conventional loans typically require between 3% and 20%, but FHA loans may require as little as 3.5%, and VA and USDA loans have 0% down payment options.

• Plan for Closing Costs: These include a variety of fees that need to be paid at closing, and can add up to 3% - 5% of the purchase price. This is in addition to your down payment.

• Consider a Gift: Buyers can use a gift from family or eligible donors for down payment assistance, but lenders may require a gift letter and proof of funds. If you think this might be an option for you, ask now so you can plan accordingly.