When a mortgage lender reviews a real estate loan application,
the primary concern for both home loan applicant and the
mortgage lender is to approve loan requests that show high
probability of being repaid in full and on time, and to
disapprove requests that are likely to result in default and
eventual foreclose. How is the mortgage lenders decision made?
The mortgage lender begins the loan analysis procedure by
looking at the property and the proposed financing. Using the
property address and legal description, an appraiser is
assigned to prepare an appraisal of the property and a title
search is ordered. These steps are taken to determine the fair
market value of the property and the condition of title. In the
event of default, this is the collateral the lender must fall
back upon to recover the loan. If the loan request is in
connection with a purchase, rather than the refinancing of an
existing property, the mortgage lender will know the purchase
price. As a rule, home loans are made on the basis of the
appraised value or purchase price, whichever is lower. If the
appraised value is lower than the purchase price, the usual
procedure is to require the buyer to make a larger cash down
payment. The mortgage lender does not want to over-loan simply
because the buyer overpaid for the property.
The year the home was built is useful in setting the loan’s
maturity date. The idea is that the length of the home loan
should not outlast the remaining economic life of the structure
serving as collateral. Note however, chronological age is only
part of this decision because age must be considered in light
of the upkeep and repair of the structure and its construction
quality.
Loan-to-Value Ratios
The mortgage lender next looks at the amount of down payment
the borrower proposes to make, the size of the loan being
requested and the amount of other financing the borrower plans
to use. This information is then converted into loan-to-value
ratios. As a rule, the more money the borrower places into the
deal, the safer the loan is for the mortgage lender. On an
uninsured home loan, the ideal loan-to-value ratio for a lender
on owner-occupied residential property is 70% or less. This
means the value of the property would have to fall more than
30% before the debt owed would exceed the property’s value,
thus encouraging the borrower to stop making mortgage loan
payments. Because of the nearly constant inflation in housing
prices since the 40s, very few residential properties have
fallen 30% or more in value.
Loan-to-value ratios from 70% through 80% are considered
acceptable but do expose the mortgage lender to more risk.
Lenders sometimes compensate by charging slightly higher
interest rates. Loan-to-value ratios above 80% present even
more risk of default to the lender, and the lender will either
increase the interest rate charged on these home loans or
require that an outside insurer, such as FHA or a private
mortgage insurer, be supplied by the borrower.
Mortgage Closing Settlement Funds
The lender then wants to know if the borrower has adequate
funds for settlement (the closing). Are these funds presently
in a checking or savings account, or are they coming from the
sale of the borrower’s present real estate property? In the
latter case, the mortgage lender knows the present loan is
contingent on another closing. If the down payment and
settlement funds are to be borrowed, then the lender will want
to be extra cautious as experience has shown that the less of
his own money a borrower puts into a purchase, the higher the
probability of default and foreclosure.
Purpose Of Mortgage Loan
The lender is also interested in the proposed use of the
property. Mortgage lenders feel most comfortable when a home
loan is for the purchase or improvement of a property the loan
applicant will actually occupy. This is because owner-occupants
usually have pride-of-ownership in maintaining their property
and even during bad economic conditions will continue to make
the monthly payments. An owner-occupant also realizes that if
he/she stops paying, they will have to vacate and pay for
shelter elsewhere.
If the home loan applicant intends to purchase a dwelling to
rent out as an investment, the lender will be more cautious.
This is because during periods of high vacancy, the property
may not generate enough income to meet the loan payments. At
that point, a strapped-for-cash borrower is likely to default.
Note too, that lenders generally avoid loans secured by purely
speculative real estate. If the value of the property drops
below the amount owed, the borrower may see no further logic in
making the loan payments.
Lastly the mortgage lender assesses the borrower’s attitude
toward the proposed loan. A casual attitude, such as “I’m
buying because real estate always goes up,” or an applicant who
does not appear to understand the obligation he is undertaking
would bring low rating here. Much more welcome is the home loan
applicant who shows a mature attitude and understanding of the
mortgage loan obligation and who exhibits a strong and logical
desire for ownership.
The Borrower Analysis
The next step is the mortgage lender to begin an analysis of
the borrower, and if there is one, the co-borrower. At one
time, age, sex and marital status played an important role in
the lender’s decision to lend or not to lend. Often the young
and the old had trouble getting home loans, as did women and
persons who were single, divorced, or widowed. Today, the
Federal Equal Credit Opportunity Act prohibits discrimination
based on age, sex, race and marital status. Mortgage lenders
are no longer permitted to discount income earned by women even
if it is from part-time jobs or because the woman is of
child-bearing age. Of the home applicant chooses to disclose
it, alimony, separate maintenance, and child support must be
counted in full. Young adults and single persons cannot be
turned down because the lender feels they have not “put down
roots.” Seniors cannot be turned down as long as life
expectancy exceeds the early risk period of the loan and
collateral is adequate. In other words, the emphasis in
borrower analysis is now focused on job stability, income
adequacy, net worth and credit rating.
Mortgage lenders will ask questions directed at how long the
applicants have held their present jobs and the stability of
those jobs themselves. The lender recognizes that loan
repayment will be a regular monthly requirement and wishes to
make certain the applicants have a regular monthly inflow of
cash in a large enough quantity to meet the mortgage loan
payment as well as their other living expenses. Thus, an
applicant who possesses marketable job skills and has been
regularly employed with a stable employer is considered the
ideal risk. Persons whose income can rise and fall erratically,
such as commissioned salespersons, present greater risk. Persons
whose skills (or lack of skills) or lack of job seniority result
in frequent unemployment are more likely to have difficulty
repaying a home loan. The mortgage lender also inquires as to
the number of dependents the applicant must support out of his
or her income. This information provides some insight as to how
much will be left for monthly house payments.
Home Loan Applicants’ Monthly Income
The lender looks at the amount and sources of the applicants’
income. Sheer quantity alone is not enough for home loan
approval; the income sources must be stable too. Thus a lender
will look carefully at overtime, bonus and commission income in
order to estimate the levels at which these may reasonably be
expected to continue. Interest, dividend and rental income
would be considered in light of the stability of their sources
also. Under the “other income” category, income from alimony,
child support, social security, retirement pensions, public
assistance, etc. is entered and added to the totals for the
applicants.
The lender then compares what the applicants have been paying
for housing with what they will be paying if the loan is
approved. Included in the proposed housing expense total are
principal, interes
About The Author: With twenty plus years experience as a real
estate agent, appraiser and real estate investor TJ Nelson,
http://www.bad-credit-mortgage-refinance-advisor.com, provides
the tools for people with bad credit to acquire the American
dream, home ownership.
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