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3 Deadly Mortgage Mistakes to Avoid If You’re Self-Employed

April 9, 2019

Love being your own boss? Unfortunately, you might not love the process of applying for a mortgage when you’re self-employed.

Of course, you won’t be alone: The Bureau of Labor Statistics projects the number of self-employed workers in the U.S. will climb to 10.3 million by 2026, up from 9.6 million in 2016. Nonetheless, this growing group faces a few extra obstacles attaining a mortgage over full-time employees who receive a W-2.

The good news? By knowing what mistakes typically trip up these freelancers and business owners, you can avoid a ton of home loan hurdles and headaches. Here are three problems to watch out for if you hope to finance a home purchase soon.

1. Your income is high, but erratic

As they do with typical home buyers, lenders will check to see if your income is high enough to pay for the mortgage. Self-employed borrowers, however, must also show that that income is fairly steady without wild fluctuations that might cramp their ability to pay a monthly mortgage, says Todd Sheinin, lender and chief operating officer at New America Financial, in Gaithersburg, MD.

To prove the stability and viability of your business, you’ll have to provide at least two years’ worth of federal tax returns. (If you’re newly self-employed, some lenders will accept only one year of self-employment tax returns if you can also provide W-2s from an employer in the same field and your current income is at least as much as you earned from your previous employer.) Though some income fluctuation is acceptable, your business should be making steady or increasing revenue each year.

To validate your business income, many lenders will also require you to provide a profit and loss statement, or a 1099 form. The caveat? If your business carries debt and you pay those debts out of a personal checking account or charge them to personal credit cards, the business debt is going to negatively affect your debt-to-income ratio qualifications. The DTI ratio is what you owe in obligations like credit card payments, student loans, car loans, installment loans, car loans, personal debts, alimony, or child support, divided by your monthly income.

As a general rule, if you want to qualify for a mortgage, your DTI ratio cannot exceed 36% of your gross monthly income, says David Feldberg, broker/owner of Coastal Real Estate Group, in Newport Beach, CA. For example, let’s say you’re paying $500 to debts and pulling in $6,000 in taxable income. Divide $500 by $6,000, and you get a DTI ratio of 0.083, or 8.3%.

However, that’s your DTI ratio without a monthly mortgage payment. If you factor in a monthly mortgage payment of, say, $1,000, your DTI ratio increases to 25%. A higher DTI ratio could mean you’ll pay a higher interest rate, or you could be denied a mortgage altogether.

The challenge for self-employed workers is that mortgage lenders will consider only their taxable income when assessing their DTI ratio. (For W-2 employees, their pretax earnings are used.) So, if your company makes $5,000 a month in gross revenue, your taxable income might be only $4,000 if, say, your company has $1,000 in work expenses.

2. You mix business with pleasure on your credit cards

Like other borrowers, you’ll need a strong credit score to qualify for a conventional loan when you’re self-employed. Though a perfect credit score is 850, all scores above 759 are considered to be in the best credit score range, since this means you’ve shown an excellent ability to pay off your past debts.

Borrowers with outstanding credit qualify for the lowest interest rates, says Richard Redmond, author of “Mortgages: The Insider’s Guide.”

But know this: Using personal credit cards to pay for business expenses can hurt your credit score if you’re carrying a large balance from month to month, or you’re missing payments. Even just one missed payment can cause as much as a 90- to 110-point drop in your score, according FICO, creator of the widely used FICO credit score.

The moral of the story: “Don’t mix business expenses with personal ones,” Sheinin advises.

Not sure what your credit score is? You can check your score for free at CreditKarma.com or perhaps with your credit card company, since some (like Discover and Capital One) offer free access to scores and reports. You’re also entitled to a free copy of your full credit report at AnnualCreditReport.com.

3. You don’t have all your paperwork straight

In addition to requesting documents that show proof of your income, lenders will also be looking at your savings, financial assets, and monthly debt obligations “to make sure that you have the means to take on a mortgage comfortably,” according to Freddie Mac, a government-sponsored enterprise that helps thousands of Americans get home loans.

Here’s the paperwork you’ll have to provide:

  • A quarterly statement, or statements for the past 60 days, of all of your asset accounts, which include your checking and savings, as well as any investment accounts (e.g., CDs, IRAs, and other stocks or bonds)
  • Any other current real estate holdings
  • Residential history for the past two years, including landlord contact information if you rented
  • Proof of funds (e.g., bank account statement) for the down payment (If the cash is a gift from your parents, you need to provide a letter that clearly states the money is a gift and not a loan.)

 

Keeping up-to-date records of your business accounts is crucial, but having a tax preparer review these documents before you submit them to mortgage lenders can help you spot any inaccuracies. That could make the difference between getting approved or rejected for a mortgage, since “even small mistakes can hurt your application,” Sheinin says.

The post 3 Deadly Mortgage Mistakes to Avoid If You’re Self-Employed appeared first on Real Estate News & Insights | realtor.com®.

3 Things You’d Better Know Before Applying for a Mortgage—or Else

December 13, 2018

Unless you’re sitting on a ton of cold, hard cash, you’re going to need a mortgage to buy a home.

Unfortunately, you can’t just show up at a bank with a checkbook and a smile and get approved for a home loan—you need to qualify for a mortgage, which requires some careful planning.

So, how do you please the lending gods? It starts with arming yourself with the right knowledge about the home loan application process.

Here are three things you need to know before applying for a mortgage.

1. What is a good credit score

Ah, the all-mighty credit score. This powerful three-digit number is a key factor in whether you get approved for a mortgage. When you apply for a loan, lenders will check your score to assess whether you’re a low- or high-risk borrower. The higher your score, the better you look on paper—and the better your odds of landing a great loan. If you have a low credit score, though, you may have difficulty getting a mortgage.

So, what’s considered a good credit score in the mortgage realm? While a number of credit scores exist, the most widely used credit score is the FICO score. A perfect score is 850. However, generally a score of 760 or higher is considered excellent, meaning it will help you qualify for the best interest rate and loan terms, says Richard Redmond, mortgage broker at All California Mortgage in Larkspur and author of “Mortgages: The Insider’s Guide.”

A good credit score is 700 to 759; a fair score is 650 to 699. If you have multiple blemishes on your credit history (e.g., late credit card payments, unpaid medical bills), your score could fall below 650, in which case you’ll likely get turned down for a conventional home loan—and will need to mend your credit in order to get approved (unless you qualify for a Federal Housing Administration loan, which requires only a 580 minimum credit score).

Before meeting with a mortgage lender, Beverly Harzog, consumer credit expert and author of “The Debt Escape Plan,” recommends obtaining your credit report. You’re entitled to a free copy of your full report at AnnualCreditReport.com. Though the report does not include your score—for that, you’ll have to pay a small fee—just perusing your report will give you a ballpark idea of how you’re doing by laying out any problems such as late or missing payments.

2. What down payment you need

What’s an acceptable down payment on a house? In a recent NerdWallet study, 44% of respondents said they believe you need to put 20% (or more) down to buy a home. So, if you do the math, you’d have to plunk down $50,000 on a $250,000 house. Of course, that’s a big chunk of change for many home buyers.

The good news? That 20% figure is common, but it’s not set in stone. It’s the gold standard because when you put 20% down, you won’t have to pay private mortgage insurance, which can add several hundred dollars a month to your house payments. Another advantage of putting down 20% upfront is that that’s often the magic number you need to get a more favorable interest rate.

But, if you’re unable to make a 20% down payment, there are many lenders that will allow you to put down less cash. And there are a number of loan products that you might qualify for that require less money down. FHA loans require as little as 3.5% down. The U.S. Department of Veterans Affairs loan program gives active or retired military personnel the opportunity to purchase a home with a $0 down payment and no mortgage insurance premium. Same with USDA loans (federally backed by the U.S. Department of Agriculture Rural Development).

Another option worth pursuing is qualifying for down payment assistance. There are 2,290 programs across the country that offer financial assistance, kicking in an average of $17,766, according to one study. (You can find programs in your area on the National Council of State Housing Agencies website.)

There are some cases, though, where you’ll have to put more than 20% down to qualify for a mortgage. A jumbo loan is a mortgage that’s above the limits for government-sponsored loans. In most parts of the country, that means loans over $417,000; in areas where the cost of living is extremely high (e.g., Manhattan and San Francisco), the threshold jumps to $625,000. Since larger loans require the lender to take on more risk, jumbo loans typically require home buyers to make a bigger down payment—up to 30% for some lenders.

3. What is your DTI ratio

To get approved for a mortgage, you need a solid debt-to-income ratio. This DTI figure compares your outstanding debts (on student loans, credit cards, car loans, and more) with your income.

For example, if you make $6,000 a month but pay $500 to debts, you’d divide $500 by $6,000 to get a DTI ratio of 0.083, or 8.3%. However, that’s your DTI ratio without a monthly mortgage payment. If you factor in a monthly mortgage payment of, say, $1,000 per month, your DTI ratio increases to 25%.

Lenders like this number to be low, because evidence from studies of mortgage loans shows that borrowers with a higher DTI ratio are more likely to run into trouble making monthly payments, according to the Consumer Financial Protection Bureau.

For a conventional loan, most mortgage lenders require a borrower’s DTI to be no more than 36% (although some lenders will accept up to 43%), says Ray Rodriguez, regional mortgage sales manager at TD Bank.

The good news? If you’re above the 36% ceiling, there are ways that you can lower your DTI. The easiest would be to apply for a smaller mortgage—meaning you’ll have to lower your price range. Or, if you’re not willing to budge on price, you can lower your DTI by paying off a large chunk of your debts in a lump sum.

The post 3 Things You’d Better Know Before Applying for a Mortgage—or Else appeared first on Real Estate News & Insights | realtor.com®.

Oops! 5 Mortgage Moves You May Not Realize You Need to Do

August 21, 2018

Getting a mortgage is easy, right? You’ve seen the TV commercials and the billboard ads touting promises like, “Get approved for a mortgage today!” Well, sorry to break the news, but the reality is that obtaining a home loan isn’t just one mouse click or phone call away.

There are a number of hoops to jump through and hurdles to cross before a mortgage lender will issue you a loan. To switch metaphors, it’s less of a sprint, more of a triathlon—and it’s easy to overlook an important stage or two as you move toward the finish line.

Curious what home buyers often miss, much to their chagrin? Here are five essential steps that many people don’t realize are needed for a mortgage.

1. Get pre-approved

In any highly competitive housing market, it’s akin to self-sabotage not to get pre-approved before making an offer on a house.

Pre-approval is a commitment from a lender to provide you with a home loan of up to a certain amount. This will set your home-buying budget, and also show sellers that you’re serious about buying when it comes time to put in an offer. In fact, many sellers will accept offers only from pre-approved buyers, says Ray Rodriguez, New York City regional mortgage sales manager at TD Bank.

Mortgage pre-qualification should not be confused with pre-approval. Pre-qualification is based solely on verbal information you give a lender about your income and savings—meaning that it shows how much you could theoretically borrow. But make no mistake, it’s no guarantee. Pre-approval, on the other hand, means the lender has already done its due diligence and is willing to loan you the money.

How to do it: To get pre-approved, you’ll have to provide a mortgage lender with a good amount of paperwork. For the typical home buyer, this includes the following:

  • Pay stubs from the past 30 days showing your year-to-date income
  • Two years of federal tax returns
  • Two years of W-2 forms from your employer
  • 60 days or a quarterly statement of all of your asset accounts, which include your checking and savings, as well as any investment accounts, such as CDs, IRAs, and other stocks or bonds
  • Any other current real estate holdings
  • Residential history for the past two years, including landlord contact information if you rented
  • Proof of funds for the down payment, such as a bank account statement. (If the cash is a gift from your parents, you need to provide a letter that clearly states that the money is a gift and not a loan.)

2. Ace the home appraisal

Lenders require a home appraisal before they’ll issue a loan, because the home you’re buying is going to serve as collateral. If you can’t make your mortgage payments, the lender will have to foreclose upon your home, and then sell the property to recoup its costs. Which is why it wants to make sure the property is worth the amount of money you’re paying for it.

If the home’s appraised value is the same as what you’ve agreed to pay, you’ve passed the appraisal. If the appraisal comes in at a figure higher than what you’re paying, you’re golden—in fact, you’ve gained instant equity! But, if the appraisal comes in lower than what you’ve agreed to pay, you have a problem.

How to do it: A lender won’t loan more than a home’s appraised value, which could leave you, the borrower, to cover the difference, says Chris Dossman, a real estate agent with Century 21 Scheetz in Indianapolis. But if you’re unwilling or able to do that, you have a few options:

  1. Negotiate with the seller. For the appraisal to pass, the seller may agree to lower the sales price. Of course, this might require some negotiating by your real estate agent with the seller’s agent.
  2. Appeal the appraisal. Sometimes called a rebuttal of value, an appeal involves your loan officer and agent working together to find better comparable market data to justify a higher valuation. If you file an appeal, the appraiser will review the information and then make a judgment call on whether or not to adjust the info.
  3. Order a second appraisal. If you believe the initial appraisal is significantly off base, for whatever reason—maybe the appraiser overlooked a good comp or wasn’t familiar with the local housing market—you can order a second appraisal. You’ll have to pony up for the expense, and appraisals can range between a few hundred dollars and $1,000, depending on the area.
  4. Walk away. This is a total bummer, but it may not be worth overpaying for a home, says Dossman.

3. Keep your credit score stable while under contract

Depending on the loan program, lender, and applicant’s specific credit history, the minimum credit score necessary to buy a home varies. The minimum requirement could be as low as 580 for a Federal Housing Administration (FHA) loan, or as high as 660 for a conventional loan, says Theresa Williams-Barrett, vice president of consumer lending and loan administration for Affinity Federal Credit Union. However, lenders vary in their requirements.

The caveat, though, is that your credit score must remain stable while you’re under contract on a house. Why? Because the lender’s final clearance and a loan commitment are subject to a last-minute credit check (and other verifications) shortly before closing.

How to do it: To avoid jeopardizing your final loan approval, follow these guidelines:

  • Don’t open new credit accounts. Applying for a new credit card can ding your score, says Beverly Harzog, a consumer credit expert and author of “The Debt Escape Plan,” because it results in a “hard inquiry” on your credit report. Buying a car, boat, or any other large purchase that has to be financed can also dock your score.
  • Don’t close old credit accounts. Closing an old account can hurt your debt-to-credit utilization ratio—a term for how much debt you’ve accumulated on your credit card accounts, divided by the credit limit on the sum of your accounts. This ratio comprises 30% of your credit score. By closing a credit card account, you reduce your available credit—making it more difficult to keep your debt-to-credit utilization ratio below 30% (the recommended percentage).
  • Don’t miss a credit payment. Even one late payment can cause as much as a 90- to 110-point drop on a FICO score of 780 or higher, according to Credit.com.

4. Review the closing disclosure form

Lenders must provide borrowers with a closing disclosure, or CD, at least three business days before closing. Essentially, the CD is the official follow-up to a more preliminary document you received when you first applied for your loan, called the loan estimate, or LE (also known as a good-faith estimate).

The LE outlined the approximate fees you would be expected to pay if you move forward with a lender to close on a home. But your closing disclosure is the real deal—it outlines exactly what fees you’re going to pay at settlement. You have to scrutinize it carefully, especially considering that a recent survey of real estate agents by the National Association of Realtors® found that half of agents have detected errors on CDs.

How to do it: Ask your real estate agent to sit down with you and compare the CD and LE. Here’s a list of things to triple-check:

  • The spelling of your name
  • Loan term (15 years? 30 years? Something different?)
  • Loan type (a fixed-rate or adjustable-rate mortgage)
  • Interest rate
  • Cash to close amount (down payment and closing costs)
  • Closing costs (fees paid to third parties)
  • Loan amount
  • Estimated total monthly payment
  • Estimated taxes, insurance, and other payments

5. Pass the underwriting process

Before your lender issues final loan approval, your mortgage has to go through the underwriting process. Underwriters are like real estate detectives. It’s their job to make sure you have represented yourself and your finances truthfully, and that you haven’t made any false or misleading claims on your loan application.

Underwriters will pull your credit score from the three major credit bureaus—Experian, Equifax, and TransUnion—to make sure it hasn’t changed since you were pre-approved. They will also review the appraisal of your prospective home to make sure its value matches the size of the loan you are requesting, and check that you haven’t taken on any new debts.

Many underwriters will also contact your employer to verify the job and salary that you listed on your loan application. This sounds like a basic step, but you’d be surprised how many people lie on their mortgage application.

How to do it: This one’s pretty simple. Assuming you’ve been diligent about keeping your credit score, job status, and debts stable, you’ll pass with flying colors. If the underwriter has a question, don’t panic—the best thing you can do is respond with prompt and complete information. Your agent is also there to help you troubleshoot any issues.

The post Oops! 5 Mortgage Moves You May Not Realize You Need to Do appeared first on Real Estate News & Insights | realtor.com®.

5 Mortifying Reasons Mortgage Applications End Up in the ‘Reject’ Pile

August 7, 2018

Peter Dazeley/Getty Images

Picture this nightmare: You apply for a mortgage, but your application gets rejected. Suddenly, you’re hit with an overwhelming wave of embarrassment, shock, and horror. It’s like having your credit card denied at the Shoprite. So. Much. Shame.

Sadly, this is a reality for some home buyers. According to a recent Federal Reserve study, one out of every eight home loan applications (12%) ends in a rejection.

There are a number of reasons mortgage applications get denied‚ and the saddest part is that many could have been avoided quite easily, had only the applicants known certain things were no-nos. So, before you’re the next home buyer who gets burned by sheer ignorance, scan this list, and make sure you aren’t making any of these five grave mistakes, which could land your mortgage application in the “no” pile.

1. You didn’t use credit cards enough

Some people think credit card debt is the kiss of death … but guess what? It’s also a way to establish a credit history that shows you’ve got a solid track record paying off past debts.

While a poor credit history riddled with late payments can certainly call your application into question, it’s just as bad, and perhaps worse, to have little or no credit history at all. Most lenders are reluctant to fork over money to individuals without substantial credit history. It’s as if you’re a ghost: Who’s to say you won’t disappear?

According to a recent report by the Consumer Financial Protection Bureau, roughly 45 million Americans are characterized as “credit invisible”—which means they don’t have a credit report on file with the three major credit bureaus (Equifax, Experian, and TransUnion).

There’s a silver lining, though, for those who don’t have credit established. Some lenders will use alternative data, such as rent payments, cellphone bills, and school tuition, to assess your credit worthiness, says Staci Titsworth, a regional manager at PNC Mortgage in Pittsburgh.

2. You opened new credit cards recently

That Macy’s credit card you signed up for last month? Bad idea. New credit card applications can ding your credit score by up to five points, says Beverly Harzog, a consumer credit expert and author of “The Debt Escape Plan.”

That hit might seem minuscule, but if you’re on the cusp of qualifying for a mortgage, your new credit card could cause your loan application to be denied by a lender. So, the lesson is simple: Don’t open new credit cards right before you apply for a mortgage—and, even if your lender says things look good, don’t open any new cards or spend oodles of money (on, say, furniture) until after you’ve moved in. After all, lenders can yank your loan up until the last minute if they suspect anything fishy, and hey, better safe than sorry.

3. You missed a medical bill

Credit cards aren’t the only debt that count with a mortgage application—unpaid medical bills matter, too. When you default on medical bills, your doctor’s office or hospital is likely to outsource it to a debt collection agency, says independent credit expert John Ulzheimer. The debt collector may then decide to notify the credit bureaus that you’re overdue on your medical payments, which would place a black mark on your credit report. That’s a red flag to mortgage lenders.

If you can pay off your medical debt in full, do it. Can’t foot the bill? Many doctors and hospitals will work with you to create a payment plan, says Gerri Detweiler, head of market education at Nav.com, which helps small-business owners manage their credit. Showing a mortgage lender that you’re working to repay the debt could strengthen your application.

4. You changed jobs

So you changed jobs recently—so what? Problem is, mortgage lenders like to see at least two years of consistent income history when approving a loan. As a result, changing jobs shortly before you apply for a mortgage can hurt your application.

Of course, you don’t always have control over your employment. For instance, if you were recently laid off by your employer, finding a new job would certainly be more important than buying a house. But if you’re gainfully employed and just considering changing jobs, you’ll want to wait until after you close on a house so that your mortgage gets approved.

5. You lied on your loan application

This one seems painfully obvious, but let’s face it—while it may be tempting to think that lenders don’t know everything about you financially, they really do their homework well! So no matter what, be honest with your lender—or there could be serious repercussions. Exaggerating or lying about your income on a mortgage application, or including any other other untruths, can be a federal offense. It’s called mortgage fraud, and it’s not something you want on your record.

Bottom line? With mortgages, honesty really is the best policy.

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