Finding the perfect house is only a small part of the homebuying process. Many people get so caught up in the search that they forget about the work that comes with paying for that new set of keys. If you’re a little overwhelmed with the home loan process, have no fear! We’re here to breakdown what all you will need to apply and qualify for a home loan.
Why do lenders need documentation?
Some might wonder why all of the paperwork and documentation is necessary in order to obtain a loan. Before we dig into what you need, let’s look at why you need it.
Prior to 2008, getting a home mortgage didn’t require as much effort as it does now. Due to loose regulation, most lenders didn’t thoroughly vet their borrowers. As a result, they handed out loans to folks who ultimately couldn’t repay the money that they borrowed. House after house was foreclosed upon, and it all culminated in the housing market crash of 2008. “The Great Recession,” as it came to be known, caused unemployment, housing instability, and other financial woes for millions across the country.
This led to a series of regulations being implemented throughout the financial sector. New rules required that lenders place stricter requirements on their loans to ensure that those who borrowed would actually be able to pay it off.
So while all of this may look like an unnecessary hassle, know that it’s ultimately beneficial for both parties. Requirements for mortgages help ensure that lenders will receive that the money that they loaned and that you’ll be able to keep the home you purchased.
What documents do you need to have when applying for a home loan?
While the process may differ slightly depending on the type of loan you take out the lending institution, most follow the same basic steps and require the same types of documentation.
This one is pretty basic, but you’ll need to provide some sort of government-issued photo identification. Lenders want to make sure you are who you say you are.
Proof of Income
One of the first things lending institutions look at when assessing your risk is your monthly income. It should go without saying, but if your monthly mortgage payments are almost as much as what you’re bringing in, a lender isn’t going to give you the money. In fact, many lenders require that you keep your housing costs to 28% or less of your monthly pre-tax income, but some mortgage programs may allow as much as 31%. The amount that you are able to borrow will directly correlate to your income.
How to Show Proof of Income
To show proof of your current earnings, you’ll need to provide documents like paystubs or your W-2s. For those who are self-employed or have other sources of income, you might need to provide other documentation such as proof of deposits or a Form 1099.
Another factor that lenders also look at is the debt-to-income (DTI) ratio, which is a number that compares your monthly gross income to your total debt payment. While lenders want to see that you have money coming in, they also want to check that it’s not all going out to pay for other bills and loans you may have. Generally speaking, the highest DTI that a lender will allow is 43%, but most prefer to less than 36%.
Paystubs don’t always give lenders a full look at your financial situation. To ensure that your last few months’ earnings aren’t an extreme anomaly, you will likely need to sign a Form 4506-T, which gives third parties permission to access your tax returns from the IRS.
Typically, lenders will look back one or two years. This will help paint a larger image of your overall finances.
Proof of Assets Like Bank Statements
Lenders may also consider your assets like savings accounts, checking accounts, and investments when compiling your risk profile. Even if you have a solid income, it’s also important to have some funds available for emergencies. Should you ever face something like job loss or hefty medical expenses, some money in the bank would allow you to make your monthly mortgage payments without relying on your income.
Credit Score and Credit Report
One of the most important factors in obtaining a loan is your credit report and credit score. Your credit report is a detailed breakdown of your borrowing history. These are compiled three credit reporting bureaus— TransUnion, Equifax, and Experian. The bureaus collect information about your financial history including:
- Credit accounts: Your payment history of all credit accounts that you currently have open will be reflected in the report. It will also show information like the type of account, the date it was opened, credit limit, loan amount, and current balance.
- Credit inquiries: Your report will reflect the number of hard inquiries that have been made to your record. A hard inquiry occurs when another lending party accesses your report after you request credit. So even if you don’t actually open an account, your lender can see the attempts at obtaining credit. Keep in mind that a high number of credit inquiries can negatively impact your credit score.
- Collections and public records: If you’ve ever filed for bankruptcy or have had debts turned over to collections, this will be reflected in a credit report. Information is also compiled from state and county-level courts.
The information is also used to compile your credit score, a three-digit number that indicates your level of creditworthiness. Many loans have a minimum credit score that you must meet. The credit score needed for a mortgage typically ranges between 580 and 620, depending on the type of loan you get.
If this is your first home purchase or you don’t have a long credit history, you may need to provide a renter’s history. This will show whether or not you’ve been consistent with your housing payments.
Documentation of Gifts
You may have some generous family or friends that decide to help you out with the purchase of your home. However, a sudden influx of money to your bank account may look like a loan to a lender, which can affect whether or not you’ll be approved for the loan.
If you’ve been gifted money that will be used towards the payment of the house, you might need to include a gift letter from the donor that states that the money is, in fact, a gift that comes with no expectation of repayment. A letter gift typically includes:
- The donor’s information such as name, address, and phone number
- Relationship to the gift recipient
- The amount and date of the gift
- A statement that the gift need not be repaid
- Signature of the donor
Down Payment Requirements
Aside from documents, many loans also come with a down payment requirement. This means that a lender probably won’t loan you 100% of the home’s value; you’ll have to pitch in some money as well.
Down payment requirements can be as low as 3.5% or as high as 20% of your home’s purchase price. Requirements may be based on the type of loan that you get or your credit history. Borrowers with less favorable credit scores are typically required to put down a larger down payment than those with great scores.
How can REX Home Loans help you finance your home purchase?
If you’re in the hunt for a mortgage, REX Home Loans has you covered. We offer borrowers competitive rates and a range of loan options.
One thing that sets us apart from the rest is our non-commissioned loan advisors. In the traditional banking world, advisors are paid based on how much they sell. When their pay depends on how much they sell, it’s easy to see where some may take advantage of an unwitting borrower.
Our highly experienced mortgage professionals always have your best interests at heart and will guide you through the complex process so that you are able to close when you need to.
Sometimes, being able to successfully purchase the home you really want comes down to timing. If you want to be able to act fast on your home purchase, getting pre-approved for a mortgage will help you be ready when the time comes. Other benefits of pre-approval include:
- Get ahead of problems: By letting a lender look over your loan documents ahead of time, you may be alerted to potential issues with your credit report or financial standing. Pre-approval will give you time to correct problems like early instead of having to scramble at the last minute to find a solution.
- Understand how much you can borrow: The preapproval process will let you know how much you can afford to borrow. This will help you narrow down your real estate search to properties that financially make sense.
- Present more competitive offers: Sometimes real estate deals fall through when a buyer ends up not being able to take out a loan. When a seller knows that you’ve been pre-approved for a mortgage, it gives them more confidence in your offer.
Start the pre-approval process today with REX Home Loans so you’ll be ready to act fast when you find your dream home.
Getting a mortgage doesn’t have to be a pain. With REX, you’ll deal with friendly professionals that want to help you every step of the way.