Financing Your Purchase
Pre-approval is different from pre-qualifying as it is a full loan approval instead of an opinion letter. It is recommended to get pre-approval before looking at homes. Finding out what you qualify for will help you look in the right price range.
Determining the Right Price Range
The first step in buying a house is to determine the price range that is right for you. You will need to consider how much you are prepared to invest in your home and how much you will need to borrow. You should also consider how much property taxes and insurance will add to your monthly mortgage payment.
Determining Cash You Will Need
You will need enough cash to cover both your down payment and any closing costs associated with the purchase. Closing costs vary significantly based on the terms of your loan but are generally 1% to 2% of the purchase price.
Determining Additional Costs
Your Compass agent will help estimate your purchasing power and your carrying costs, but it is highly recommended that you discuss your cash needs and tax ramifications with an accountant and/or financial advisor.
Pre-Approval for a Loan
An offer is given greater consideration by a seller if it is accompanied by a pre-approval letter from a reputable lender or a local mortgage broker. This assures the seller that you will be able to obtain the proposed financing and will not tie up the property needlessly.
Lenders will inquire about the following six critical factors:
- Income
- Savings/capital/investments
- Credit history
- Debt level/ratio
- Employment history
- The value of the property you wish to purchase
The Home Loan Process
1
PREPARATION
Loan Application with Supporting Documentation
Credit report
Preapproval issued
Loan options
2
PROPERTY SEARCH
Property search begins
Offer is accepted
(Loan submission to lender, Lender underwriting begins)
3
ESCROW PERIOD
Conditional approval given by lender
Final approval given by lender
Loan documents sent from the lender
Loan documents recorded
Purchase closes
Things you should NOT do when applying
for a home loan
Below are a list of things to steer clear of when seeking to obtain financing for a home. The following items may be detrimental when trying to move forward with the loan process.
DON’T buy or lease an auto before you apply for a home loan
Lenders look carefully at your debt-to-income ratio. A large payment such as a car lease or purchase can greatly impact those ratios and prevent you from qualifying for a home loan.
DON’T move assets from one bank account to another
These transfers show up as new deposits and complicate the application process, as you must then disclose and document the source of funds for each new account. The lender can verify each account as it currently exists. You can consolidate your accounts later if you need to.
DON’T buy new furniture or major appliances for your new home
If the new purchases increase the amount of debt you are responsible for, there is the possibility this may disqualify you from getting the loan, or cut down on the available funds you need to meet the closing costs.
DON’T change jobs
A new job may involve a probation period, which must be satisfied before income from the new job can be considered for qualifying purposes.
DON’T run a credit report on yourself
This will show as an inquiry on your lender’s credit report. Inquiries must be explained in writing.
DON’T attempt to consolidate bills before speaking with your lender
The lender can advise you if this needs to be done.
DON’T pack or ship information needed for the loan application
Important paperwork such as W-2 forms, divorce decrees, and tax returns should not be sent with your household goods. Duplicate copies take weeks to obtain, and could stall the closing date on your transaction.
The underwriter reviews your loan
1. Credit
It is important that credit has been established with a good payment history. Any derogatory credit must have a good explanation. Outstanding collection accounts, judgements, or liens must be paid through escrow. The credit report will also list a credit score – a mathematical calculation of your overall credit rating.
2. Job Stability
A consistent job history with the same company is ideal; however if changes have been made for advancement, it is acceptable. Schooling completed in preparation for a specific vocation is considered to be a part of your job history.
3. Income and Ratios
Your gross monthly income (before taxes) is computed. Bonuses, overtime, part-time, or self-employment income is averaged over the last two years. The principal, interest, taxes, and insurance (PITI) on the new loan (plus mortgage insurance, if applicable) is divided by the gross monthly income to get the “top” ratio. P.I.T.I and all debts are divided by the income to get the “bottom” ratio. Ratios are ideally 33 over 38 for an 80% loan and lower for a 90% , 95% or 97% loan. If other components are strong, higher ratios may be permitted. (PITI / Gross Monthly income = Top Ratio) (Total Debt / Gross Monthly income = Bottom Ratio)
4. Down Payment, Closing Costs and Cash Reserves
To be considered, your funds must have been verified as having been yours for 3 months. A 5% minimum down payment MUST be from your own funds; however, the remainder of the down payment, closing costs, and the 2 to 3 months of reserves may be gifted by a relative who provides a letter and bank statement showing the ability to give.
5. Property
The property is the security for the loan. The lender will require an appraisal by a certified fee appraiser to assure that there is sufficient collateral. The underwriter will review the appraisal to verify the marketability, condition, and value of your home. The lender will also review the title report and require title insurance on the property for your protection as well as theirs. *If you don’t fall within these guidelines, don’t panic! Lenders work with various investors that offer loan products to fit all situations.
COMPONENTS OF A MORTGAGE
P.I.T.I.
Principle, interest, taxes, and insurance
Insurance
Homeowners insurance, mortgage insurance, homeowners dues
Formula 1
(Property Taxes Marin County)
Purchase price X 1.1875% / 12 months = Monthly Property Taxes
Formula 2
(Formula for home owners insurance)
Loan amount X 0.35% / 12 months = Monthly Homeowners Insurance
How do lenders qualify borrowers?
Income
Assets/Reserves
Debt
Credit (FICO Score)
Debt Ratio
Assets/Reserves
Debt
Credit (FICO Score)
Debt Ratio
Income
Assets/Reserves
Debt
Credit
(FICO Score)
Debt Ratio
Income $200,000 / $16,667 per month
Total monthly payments on installment
+ revolving debt
Proposed Monthly Housing Expenses
Purchase Price: $1,250,000
Loan Amount: $1,000,000
Down Payment $250,00
30-yr fixed interest-only payment @3.875%: 4,702.37
Taxes per month $1,302.08
HOA Dues (or hazard insurance) $500.00
Total monthly payment (PITI) – $6,504.45
Monthly Debt Payment: $400.00
Total Debt Service: $6,904.45
Housing to income ratio 39%
Overall debt service to income ratio 41.40%
*Many lenders will allow up to 43%-45% of your gross income and total monthly obligations.
**Lenders will use a formula of 1.25% of the sales price to calculate property taxes. The property taxes in many cities will be more or less.