Buying a house is a big undertaking, especially when you’re trying to qualify for a mortgage at the same time. Just remember the “5 C's:” Cash, credit, collateral, capacity to pay, and change in payment.
1. Cash
You’ve heard the saying “cash is king” — and, in many cases, it’s true. A major part of qualifying for a home loan is cash, or how much money you have. Lenders will examine things like…
- Your net worth
- Amount of money in checking accounts and savings accounts
- Down payment amount
A good rule of thumb is to have at least 3.5% of your purchase price set aside before you apply for a loan. This could go toward your down payment, closing costs, or other fees. Your actual required down payment may vary depending on your loan program.
While many low- and no-down-payment mortgage options exist, it's beneficial, in most cases, to put down as much money as you can comfortably afford; this can improve your chances of getting approved for a loan and/or qualify you for a better variety of loans. If you're planning on using a conventional loan, a full 20% down payment will also help you avoid paying private mortgage insurance (PMI).
Additionally, it’s a good idea to have 2-3 months of house payments set aside in the bank after closing as an emergency fund.
2. Credit
Your credit score is one of the most important factors in getting a mortgage. A good credit score opens doors to more options — like niche home loan programs, lower down payment requirements, or a lower interest rate — but there are plenty of options for those with less-than-perfect credit, too.
Credit scores generally range from 300 to 850, with 300 being very poor and 850 being excellent, according to the Fair Isaac Corporation (FICO). While most mortgage loans require a minimum credit score of 620, some can be as low as 580.
Your credit score is made up of several factors, such as:
- Payment history
- Amounts owed
- Length of credit history
- Credit mix
- New credit
To put your best foot forward, make sure you have at least 12 months of on-time payments to show for. It also helps to have multiple open credit lines or loans that have been reporting for the past 24 months to show a variety of credit sources and longevity of credit.
3. Collateral
The property you’re planning to purchase can make a difference in the loan you qualify for. This includes factors such as:
- What type of real estate are you buying? (Single-family home, condo, town home, etc.)
- What is the current market value of the real estate, and how was this determined?
- What is the structure’s current condition and marketability?
4. Capacity to Pay (Work and Income)
Like credit, capacity to pay is another major factor in qualifying for a mortgage loan. Your lender needs to make sure you’ll be able to afford your monthly mortgage payments.
To prove your ability to pay your loan back, lenders will examine:
- Your monthly income
- Your income history (How long have you been with your current employer?)
- Your debt-to-income ratio (How much of your monthly income goes toward your monthly debts, such as housing, auto loans, credit cards, student loans, etc.)
5. Change of Payment
Finally, the change in payment is something lenders will consider when going over your mortgage loan options. If your monthly housing payment is increasing, you’ll need to ensure you have the means to pay for the difference without causing financial hardship.
Any monthly payment increase should be proportionate to your income and savings history. Buying a home should not create problems paying for basic needs such as groceries, utilities, gas, clothing, etc.
Ready to get started and learn more about which loan programs you may be eligible for? Contact a mortgage professional in your area today.
