How do you prepare for a mortgage application? What do you do if your mortgage application is denied?
As of August of 2011 lenders rejected about 50% of received applications for mortgage refinance (according to the Mortgage Bankers Association).
We recommend to always know and improve your credit history before you apply for a mortgage or refi. – the key is to improve your credit score. If the mortgage is still rejected then we look at the lender – was this because they are the wrong type of lender or is there something else going on?
Why might you not qualify for a mortgage?
If your mortgage application is denied, always find out exactly why the lender turned you down. The law states that you have the right to receive a disclosure letter – but you want more than those general letters – so use the fact that you have the right of disclosure to find out the ‘real’ reason from the front person you worked with.
The best way is to take the disclosure letter to your loan officer and ask for an explanation that makes sense to you, something that you can do something about. The front person is a great source of answers as to how your loan is perceived at that institution.
What reasons are there for rejecting a mortgage application:
1) Appraisal was too low to back the amount of loan requested – declined due to LTV (loan-to-value). Lowball appraisals kill many purchases and refinances, but if you are certain that it is a low appraisal it is worth reapplying with a different lender. Try to find a mortgage lender that is local and uses local appraisals to ensure that they know the market value for your home. One of our clients had an appraisal at $1.2M and yet it came in at $2.1M with a local appraisal – not a small discrepancy between appraisals!
2) Credit history problems should always be resolved before you apply because some credit fixes can take time (6-12 months). If your credit score is slightly lower there may be quick fixes like paying off credit card balances but even they will take 3 months before they show up in all three credit scores.
Some lenders will do a rapid rescore to get a new score soon after you know that the three credit history companies receive your changes – but this can still take time.
3) A too high Debt-to-income ratio will require that you pay off debt so that your monthly payment obligations are low enough compared to the income you earn. Although unusual some times we find that clients have not included all of their income. In most cases, we help clients select the best assets that will be sold to pay off debt and lower their monthly debt payments.
Most lenders follow Fannie Mae (45%) and Freddie Mac guidelines some have more stringent requirements (35-38%). Forty-five percent is a very high DTI and we recommend that despite the allowed DTI you not exceed 35% DTI. If you are trying to get a mortgage with a DTI above 35% consider carefully if you have the capacity to maintain this debt load if you have an emergency or unexpected financial shortfall.
4) When selecting your mortgage consider the size of the lending institution. Often we find that community banks and credit unions have more flexible underwriting standards. This is particularly important for those who are self-employed.
5) Do not take mortgage rejection personally. At times it is not ‘the right time for you’ to refinance or purchase a home. It will be the right time for you if you take the opportunity to manage your finances, pay off debt responsibly and keep adding to your earning history. Always get your finances in order 6 to 12 months ahead if you are planning to buy a home. For many, this is their largest debt they will obtain in their lives.
Edi Alvarez, CFP®
BS, BEd, MS