Everything you should know about getting a mortgage
Before approaching a mortgage lender and starting the process of filling out a mortgage loan application, you can benefit from understanding the basics of mortgages
Before approaching a mortgage lender and starting a mortgage loan application, you can…
Benefit from understanding the basics of what a mortgage is, what options you have, and the best way to get started.
1. What does it mean to be pre-approved or pre-qualified and do I need to be both?
2. How does your credit score affect your home loan interest rate?
3. If you have a low credit score you can still buy a home, here’s how
4. What is mortgage insurance and how can I avoid it?
5. Choosing the best mortgage loan for you
6. It can be challenging to keep up with everything – here’s a checklist to keep things organized
For example, do you need to get pre-approved or pre-qualified? How much does your credit affect your rate? What are the different loan types and which one would be best for you?
It’s a lot when this isn’t your day job.
Our goal is to make it just a little easier and a bit more digestible for you so you can sail through the mortgage process without a worry.
For example, to get us started…
What does it mean to be pre-approved or pre-qualified and do I need to be both?
Before you begin your home buying journey, make sure you’re up to speed about what it means to be pre-approved for a mortgage, why you should get pre-approved, and the pre-approval process.
Terms like pre-approval and pre-qualification may sound like the same thing, but there is a difference between the two.
What does pre-approval mean?
Pre-approval means the bank has taken a hard look at your financials and determined you are creditworthy enough to take out a home loan for a given amount.
It means that you are a serious buyer and can afford mortgage payments, a down payment, and closing costs.
Why you should get pre-approved
Quite simply, you should get pre-approved by a mortgage lender as soon as you’re ready to put an offer on a home because it strengthens your offer.
Sellers are much more likely to entertain your offer if you have proof that you can secure a mortgage – which makes it more likely that you’ll complete the purchase. In fact, many home offers are turned down by sellers if the buyer is not pre-approved for a mortgage.
Pre-approval also gives you a concrete idea of how much you can afford.
By getting pre-approved, you won’t experience that soul crushing moment of realizing you’ve been shopping for houses that cost $50,000 more than what you can afford.
Pre-approval vs. pre-qualification
Pre-qualification
Pre-qualification is a general analysis of your financial situation.
This analysis is solely based on the information you provide and is an estimate of how much might be able to borrow.
Mortgage lenders will not ask for any documents that verify the financial information you provide, but they will perform a credit check.
Once you get prequalified, you can discuss different mortgage options and with your lender to identify the best mortgage for you.
Pre-approval
Pre-approval is a hard analysis of your financials. Pre-approvals specify the actual home loan amount that you’re eligible for.
The lender will require you to submit a formal mortgage application and a slew of documents to verify your financial information. They will also pull a full credit report.
If you are preapproved, you will receive a preapproval letter, which is an offer to lend you a specific amount. This offer is good for 90 days.
How to get pre-approved
Along with filling out an application, you will need to provide the lender with a lot of documents, including:
– Two years of tax returns
– W-2s
– Pay stubs
– Driver’s license or Government Issued ID
– Social Security Number for credit report
– Asset information
Once the mortgage lender has received your information and processed it, you will either be approved or denied for a home loan.
If approved, the lender will inform you how much they are willing to loan you, as well as provide you with various mortgage rates and down payment options.
How does your credit score affect your home loan interest rate?
The interest rate on a mortgage loan is one of the factors that determine the amount of your monthly payment.
Loan payments are made up of interest and principal (the amount of money borrowed). Over time, monthly interest payments added to your principal amount can add up to a large sum of money.
This is why a low-interest loan is highly attractive to a home buyer, as it results in you paying less to use the borrowed money over the life of the loan.
The interest rate that you qualify for will depend, in part, on your credit score, as this score is a means of determining the likelihood of your repayment of the loan based on your past credit actions.
Another way to look at the connection between your credit score and how it affects your rate is by approaching it from a more personal perspective, such as if you have ever loaned money to a friend or family member.
If that person was slow to pay back the money — or didn’t repay it at all — you are probably reluctant to lend them any funds in the future.
The same is true of financial institutions.
They are more willing to lend money to a person with a record of paying creditors on time. That’s why, when deciding whether or not you are a good candidate for a mortgage loan, a lender considers your credit score.
Your credit score is a measure of your financial health and indicates to lenders their level of risk in lending money to you.
A high credit score
A high credit score suggests that you are likely to repay your loan on time and may qualify you for the best — lowest — interest rate offered by that lender.
A low credit score
A low credit score suggests that you might submit late payments or even potentially default on the loan. In this case, a higher interest rate is offered to offset the lender’s risk.
Your credit score is most often calculated using the FICO scoring model
It is derived from information compiled by credit reporting companies.
Your personal credit reports at these companies include a history of your repayment habits regarding money you have borrowed or purchases you have made using credit.
Credit scores range from 300 to 900; a credit score above 700 indicates that you manage credit well and a lender is likely to be comfortable making a loan to you. A credit score lower than 700 indicates that you may have mismanaged your credit, making you more of a risk to a lender.
If a lender lends money to you despite a low score, you may be required to pay a higher rate of interest on the loan.
How your score can affect your loan
A difference of only a few points on your credit score can add hundreds of dollars to the cost of your mortgage due to the assignment of a higher interest rate to your loan.
For example, a 30-year, $220,000 loan at a 4% interest rate without any other fees would have monthly payments of approximately $1,050.
30-year fixed conventional
at a 4% rate equals aHowever, the same loan at a 5% interest rate would have monthly payments of $1,181. The difference of $131 per month adds up to $1,572 extra paid on the loan – in interest alone – in a year’s time.
30-year fixed conventional
at a 5% rate equals aRaise the interest rate to 8%, and you have a mortgage payment of $1,614 — an extra $564 per month over the 4% rate. Over the life of the loan (30 years) this is an additional $203k in additional interest that you would pay at 8% versus 4%.
30-year fixed conventional
at a 8% rate equals aStart now, before purchasing a home, to take steps to boost your credit score.
Pay bills on time each month.
If you do hold a balance on your credit cards, strive to maintain balances below 30% of the available credit amount.
While there are other options available to lower the interest rate on a potential mortgage loan (such as having a larger down payment or paying a fee for a discounted rate) a strong credit score will go far in setting you up for a competitive mortgage loan rate.
If you have a low credit score you can still buy a home, here’s how
While credit is a major factor of your mortgage loan, it is definitely not everything.
Whether you are a first-time home buyer looking to finally take the plunge, or a seasoned homeowner hoping for a change, it pays to understand your full range of financial options.
Try FHA loans
FHA loans are approved by the Federal Housing Administration. They allow borrowers increased access to lower interest rates, which are insured by the federal government.
This reduces the risk for lenders and gives those buying a house more options and flexibility in their spending.
FHA loans offer much lower down payments for those that are accepted and can be as low as 3.5% of the loan total. The FHA can cover borrowers whose credit score is at least 580. For those who want to seek these benefits, but have a lower credit rating, the FHA recommends a Consumer Credit Counseling program to avoid getting denied a loan.
You can learn the in’s and out’s of FHA loans later in this guide, click here to skip to it.
Accept higher interest rates
Dealing with the reality of higher interest rates on your loan will be important for most people purchasing a house with less than perfect credit.
It’s not ideal, but there are ways to work this challenge into your family’s finances.
Saving up and making a larger down payment will save on interest and smart budgeting will allow you to pay your mortgage off faster.
In any case, understanding how to budget for your home loan payments is key for anyone – good or bad credit.
Explore all options
Some home sellers take on the role of lender and provide seller financing options.
This is a line of credit directly between the buyer and seller of the house that is used to facilitate some transactions.
Although only about 10% of sellers will be interested in exploring this option, it can serve as an excellent alternative when traditional loans are unavailable.
If all else fails, sometimes the best option is to hold off for a couple years in order to save money and improve your credit.
The credit boost gained in two years can often mean the difference between an affordable interest rate and one that is unmanageable. Having the ability to pay more up front will mean lower house payments overall.
What is mortgage insurance and how can I avoid it?
With an upfront fee and monthly installments, mortgage insurance is an added expense you need to consider when purchasing your new home.
It may just make or break your purchase decision. Here’s what you need to know about it.
What is mortgage insurance?
Though it’s paid by the borrower, mortgage insurance protects the lender in case the borrower defaults. It’s insurance for the lender, not you.
Why do lenders charge mortgage insurance?
Loaning money to anyone is a risk, and lenders lower that risk by charging borrowers for mortgage insurance.
Though mortgage insurance makes home buying a little less appealing, it nonetheless makes it more available to many Americans by making the qualification process easier. With it, many are able to qualify who would have once been denied.
It might seem contrary to what you would think, but anyone who is unable to put 20% down is the real benefactor of mortgage insurance.
Are there different types of mortgage insurance?
Yes, but not really. Depending on what loan you use to purchase your house, there is a different nomenclature for the mortgage insurance. In essence, they’re all basically the same (though some come with higher rates).
Convential loan
Conventional loans come with what is called private mortgage insurance (PMI). How much you pay depends on your down payment and your credit score.
VA loan
VA Loan mortgage insurance is called the VA Guarantee. How much you pay depends on a variety of factors, some of which include your down payment amount, what branch you served in, and whether or not this is your first VA loan.
FHA loan
Mortgage insurance for FHA loans is called MIP (mortgage insurance premium). It comes with both an upfront cost (which you’ll have to pay at closing) and monthly payments.
You can learn the in’s and out’s of FHA loans later in this guide, click here to skip to it.
USDA loan
USDA loans also come with mortgage insurance. They’re similar to FHA, but are cheaper overall than most other mortgage options.
You can learn the in’s and out’s of USDA loans later in this guide, click here to skip to it.
Does mortgage insurance go away?
PMI, which applies to conventional loans, will automatically go away after you reach 22% equity (or 78% LTV); however, you can request for it to go away once you’ve reached 20%.
For FHA loan mortgage insurance, MIP exists for the entire span of the loan. If you want to get rid of it, you’re going to have to refinance to a non-FHA loan.
Another option (for non-FHA loans) is to get your house reappraised. If your home’s value has raised significantly enough, your lender may consider dropping PMI.
How do I avoid mortgage insurance?
The only way to avoid mortgage insurance is to make a 20% down payment or to use a second mortgage.
Known as a piggyback loan, you take out a loan for 80% of the purchase price and then take out a second loan to cover the remaining amount.
Doing this, you have to make sure that the combined mortgage payments are not higher than the cost of a single mortgage with insurance. Typically, second mortgages come with higher interest rates, so you’ll definitely want to do the math before you decide!
Choosing the best mortgage loan for you
Before approaching a lender and starting the process of filling out a mortgage loan application, you can benefit from an understanding of the different types of mortgages available and the advantages and disadvantages of each.
Conventional Fixed Rate Mortgages
Benefits & Details:
Fixed Rate Mortgages make up more than 75% of all home loans. Typical loan terms range from 10 to 30 years. While the 30-year option is the most popular, a 15-year term builds equity much faster.
The interest rate remains the same for the entire term of the loan, enabling easier budgeting for the homeowner.
Low down payment options are available.
It is easy to compare loan offers of this type, by looking at the differences in the fixed rates from different lending institutions.
A Conventional Fixed Rate Mortgage could be right for you if:
1. You plan to stay in your home for seven years or more.
2. You are concerned that interest rates might rise in the future, and you want to lock in your current rate.
3. You have the ability to provide a 20% down payment, as this will not require Private Mortgage Insurance (PMI). If you put less than 20% down, PMI will be removed after you pay down the loan to 78% of the starting balance.
Conventional Adjustable Rate Mortgages (ARMS)
An adjustable-rate mortgage (ARM) is a home loan with an interest rate that varies over the life of the loan.
Usually, the initial interest rate is locked in for a specific time period, after which it changes periodically based on market conditions and the terms of the loan.
For example, the interest rate might be fixed for five, seven, or ten years, then adjust every year thereafter. A 5/1 ARM would have a fixed interest rate for the first five years and then convert to an adjustable rate, with annual adjustments for the remaining term of the loan.
Benefits & Details:
ARMs typically offer lower payments during their initial fixed term than a fixed–rate mortgage.
The interest rate adjusts periodically to reflect market condition within a predetermined time frame. There may or may not be a cap on the amount the rate can increase and number of times it may change over the term of the loan.
The initial rate can be locked in for a period of time as specified in the loan terms.
An ARM loan could be right for you if:
1. You anticipate owning your home for only a short period of time and will likely sell before the introductory fixed-rate period ends.
2. You can afford to make larger monthly payments should interest rates rise.
3. You have reason to believe interest rates may go down in the future.
4. Over 25% of your income is derived from commission, bonuses or distributions annually or throughout the year.
FHA (Federal Housing Administration) Loans
An FHA loan is a government-backed mortgage insured by the Federal Housing Administration, an agency of the U.S. Department of Housing and Urban Development (HUD).
Borrowers pay for mortgage insurance that protects the lender from a loss if the borrower defaults on the loan.
Loan terms range from 15, 20, to 30 years and interest rates are fixed but adjustable Interest rate options are available. These loans are guaranteed by the government, so lenders offer attractive interest rates with less stringent qualification requirements.
Is an FHA loan a government loan?
Yes and no. FHA mortgage loans are secured by the government, but they’re not actually administered by the government. This means that if you default on your payments, your mortgage lender is protected.
Lending requirements are a way to screen borrowers and select the ones least likely to default on payments. Many banks have extremely high standards that are unrealistic for the average American borrower.
FHA loans effectively lower these requirements, but to lenders the risk is still there, which is why the government actively insures each FHA loan.
FHA loans are administered by banks, but each loan is insured by the government in case the borrower stops making monthly payments.
Do you still have to pay for mortgage insurance if it’s government insured?
Yes. You have to pay for both an upfront mortgage insurance as well as an annual mortgage insurance.
The upfront mortgage insurance can be paid at closing or can be rolled into the mortgage. The annual mortgage insurance is for the life of the loan unless your down payment is 10% or higher.
What credit score requirements are there?
You must have a minimum credit score of 580 to qualify for a low down payment; however, your score can go as low as 500, but if it falls between 500-579, you’ll have to make a larger down payment.
Note: Know that lenders look at each of your credit scores and use the middle score to determine whether or not to lend to you. Each of your credit reports (TransUnion, Experian, and Equifax) has an individually generated FICO score. No matter how high or low your credit scores are, lenders use the score that is in the middle (not the average). So if you have the following credit scores— 560, 580, and 650— your lender would use your 580 credit score when determining your interest rate.
What down payment requirements are there?
FHA loans require a 3.5% down payment for scores above 580. For a $150,000 house, the minimum you would have to pay is $5,250 (plus closing costs) if your score is 580 or above.
Benefits & Details:
FHA loans offer low down payment options, including assistance from third party organizations and agencies, and the ability to use gifted funds for the down payment and closing costs.
Applicants should have a fair-to-good credit score, proof of employment, and a steady income.
There may be no reserve requirement for one- to two-unit properties.
Seller concessions of up to 6% are allowed.
Purchases can have up to a 96.5% loan to value ratio (LTV).
Refinances can have up to a 97.75% LTV.
Cash-out refinances can have up to an 85% LTV (not available in Texas).
These loans are backed by the FHA.
A FHA loan could be right for you if:
1. You qualify based on income and other factors.
2. You have limited income and funds for a down payment (a down payment can be as low as 3.5%).
3. You have less than perfect credit.
VA (Veterans Affair) Loans
A VA loan is a mortgage loan that is guaranteed by the Department of Veterans Affairs (VA) for those who have served or are presently serving in the U.S. military.
While the VA does not lend money for VA loans, it backs loans made by private lenders (banks, savings and loans, or mortgage companies) to qualifying veterans, active military personnel, and military spouses.
Three types of VA loans exist: Purchase Loans, Interest Rate Reduction Refinance Loans (IRRRL, also know as a “VA streamline refinance loan”), and Cash-out Refinance Loans.
VA loans have many benefits; one of the greatest is that no down payment is needed to purchase a home. This factor makes home ownership a reality for active military or veterans who might not otherwise be able to afford to buy a house.
If you are a veteran, an active-duty service member, or a member of the Guard or Reserve, you may be eligible for a VA loan. A VA loan can be used to purchase or refinance one- to four-unit properties with terms ranging from 10 to 30 years.
Benefits & Details:
VA loans are partially guaranteed by the VA, allowing private lenders to provide better terms, such as 100% LTV without PMI and no down payment (in many cases).
They are available to veterans or active-duty military with a VA Certificate of Eligibility.
VA loans are offered for existing owner-occupied, one to four family Planned Unit Developments (PUD) or VA-approved condos.
Purchases have up to 100% LTV.
Cash-out refinances have up to 90% LTV (not available in Texas).
These loans have the ability to finance the VA funding fee.
No monthly PMI is required.
Gift funds from immediate family are allowed for up to 100% of closing costs or the down payment.
Seller concessions are allowed for 100% of closing costs, plus up to 4% of the purchase price toward prepaid expenses.
A VA loan could be right for you if:
1. You are a current or former member of the U.S. Armed Forces, or the current or surviving spouse of one.
2. You qualify for a VA home loan as a veteran or reservist.
Jumbo Mortgage Loan
Also known as a “non-conforming mortgage,” Jumbo Mortgage Loans are available to borrowers with a need to finance an amount greater than the conventional limit on an eligible primary residence or secondary/vacation home.
These loans are available with both fixed and adjustable interest rates for terms between 10 and 30 years. Jumbo Mortgage Loans do not “conform” to the guideline requirements of Fannie Mae and Freddie Mac loans.
Benefits & Details:
Loan amounts are available for up to $3.5 million with fixed and adjustable-rate options.
Financing is available for up to 90% of a home’s value with no PMI requirement for a purchase or a refinance.
Financing of up to 80% on a cash-out refinance is available.
A Jumbo Mortgage Loan could be right for you if
You are in the market for a higher priced home.
U.S. Department of Agriculture (USDA) Loan
A USDA home loan is a zero-down payment mortgage for eligible rural and suburban home buyers. USDA loans are issued through the USDA Loan Program, also known as the USDA Rural Development Guaranteed Housing Loan Program.
The USDA guarantees a variety of loan types to help low or moderate-income citizens purchase, repair, or renovate a home in a rural area. These include: the Single Family Direct Homeownership Loan, the Single Family Guaranteed Homeownership Loan, the Rural Repair and Rehabilitation Loan or Grant, and the Mutual Self-help Loan.
For eligible buyers, these loans feature benefits such as 100% financing with no down payment and below-market mortgage rates.
Though the terms and details of these loans differ, all USDA loans offer very low effective interest rates (some are as low as 1 percent), and don’t require a cash down payment. To qualify, a fair to good credit history is required.
Not all properties qualify for USDA loans, so be sure to visit the USDA website to see if yours meets the requirements.
How to Qualify for a USDA Loan
Both the home and borrower have to be approved for a USDA loan. For a house to qualify for a USDA loan, it must be in an approved area. Luckily, the USDA has made this very simple.
Simply type in the address of the house you’re interested in buying into this search bar (NOTE: You’ll first have to accept the ‘Property Eligibility Disclaimer’ button). If the home qualifies for a USDA home loan, the site will tell you.
For a borrower to qualify for a USDA loan, he or she must:
Meet certain income limits for your purchase area (varies by location)
Have a consistent income for the past 24 months
Have an acceptable credit history (NOTE: If you have any negative marks, you will have a more thorough underwriting process)
Benefits & Details:
No down payment is required.
Interest rates are lower than market rates.
Monthly PMI costs are low.
USDA loans offer the ability to finance PMI upfront.
Credit guidelines are flexible.
A USDA loan could be right for you if:
1. You live in a rural environment.
2. You do not have a high income.
3. You have blemished or limited credit.
4. You are unable to secure a home loan from traditional sources.
How do USDA loans compare to other loans?
Assuming you want to buy in either a rural or suburban area, and you meet the income limits, here are some things to consider when choosing a USDA loan over a FHA loan, conventional loan, or VA loan.
USDA Loan vs. FHA Loan
The interest rate is normally .5% higher for an FHA loan. USDA loans also come with 100% financing, meaning you don’t have to make a down payment. FHA loans require 3.5% for credit scores 580 and above and 10% for scores 500-579.
USDA Loan vs. Conventional Loan
The USDA loan requires a higher credit score of 640, but that does not mean you can’t get a USDA loan if it’s lower. Conventional loans usually require a credit score of 620, but that depends on the lender.
USDA Loan vs. VA Loan
For a VA loan, you must have served in the U.S. military. Both offer zero down payment options. However, with VA loans, there aren’t any income limitations nor are there purchase area restrictions.
It can be challenging to keep up with everything
During the home loan application process, you may be asked to provide a wealth of information or documents.
Get a jump start by downloading our homebuying application checklist that lists the various application documents you may be asked to provide as part of your mortgage application.
If you have any questions, one of our experienced Home Lenders would be happy to give you answers! Call (866) 236-4779 or fill out a Call Request Form.
Herring Bank walked us through the process, answered each and everyone of our questions along the way and we felt like he really had our backs during this process.
Trina B. | customer since 2017You are here
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