7 red flags that could ruin your mortgage application
Since home loans often take several years to repay, mortgage lenders go through a rigorous screening process before granting approval. This includes proof that you are a reliable borrower with your credit history and sufficient income to make payments on time.
Whether you’re a first-time home buyer or your mortgage application has been turned down in the past, there are several red flags that could affect your application. Below are seven of the most common issues that could cause problems with your mortgage application, and tips to improve your chances of getting approved.
1. Have a bad credit score or no credit history
Applying for a loan with little or no credit history is like applying for a job without a CV. Mortgage lenders require records that show you can make repayments reliably and manage your debt.
Plus, having a good credit rating can increase your chances of getting both approval and favorable interest rates. According to data from the Home Mortgage Disclosure Act (HDMA), approximately 22% of mortgage applications are refused due to bad credit history.
You should aim for a FICO credit score of 700 to get the best rates. If that’s not realistic, try to get as close as possible by paying your bills on time and keeping your credit usage low.
You can also check your credit score by obtaining a copy of your credit report from the three major credit bureaus: TransUnion, Equifax, and Experian. Under federal law, you can request one for free every 12 months.
Learn more: The 7 Most Popular Mortgage Types For Home Buyers
2. High debt ratio (DTI)
Your Debt Ratio (DTI) refers to the percentage of your monthly pre-tax income that goes to service your debts, such as credit cards, car loans, mortgages, and student loans.
A DTI ratio of 20% is considered low and a good sign for lenders that you can pay responsibly. However, IDTs above 43% may cause them to ask for more proof that you can repay the loan.
In fact, HMDA data indicates that almost 80% of claims with DTIs greater than 60% are denied.
As such, you need to keep your overall debt low and postpone large purchases to use up less credit. Use a loan calculator at least once a month to check your progress.
It also helps to learn about the different types of mortgages and the policies of different lenders. You might find a loan option that better suits your financial situation.
3. Low down payment or high loan-to-value ratio (LTV)
The loan to value ratio (LTV) is the ratio of the loan amount to the value of the property. Lenders like to see low LTVs to know that their investment is protected in the event of default.
Saving for a larger down payment can increase your chances of getting approved, although it’s still possible to get a mortgage even if your LTV is over 80%.
In such cases, lending institutions will ask you to take out third party mortgage insurance to protect their interests. Just note that you will pay insurance fees in addition to your closing costs and your monthly membership fee.
Read more: Mortgage default risk remained stable in Q4 2020
4. New loans and last minute purchases
Another common pitfall you should avoid is making big purchases right after you apply for a mortgage.
Let’s say your current DTI ratio is 42%, which is just below the 43% limit of most lenders. You will likely exceed this threshold if you buy a new car with a monthly auto loan amortization of $ 500 – and that will likely result in your mortgage application being rejected.
The bottom line is that you should postpone large purchases and avoid making further loans until your application closes. Talk to a mortgage professional before doing anything that breaks your regular spending habits.
5. Major changes in your lifestyle
Lenders can also take major life events, such as starting a family or going on maternity leave, into account when you apply for a loan.
They can be wary of your affordability, so they’ll likely need additional proof that you can make monthly payments without a hiccup.
Likewise, if you are going through a divorce, you need to reassess your financial capacity, especially if you are buying a new property on your own. It can also increase your chances of properly managing spousal loans you previously made with your ex-spouse.
6. Large bank deposits
Having a large amount of money deposited into your bank account is usually a cause for celebration – but not when you have a pending loan application.
A âbigâ deposit means any non-standard amount that is credited to your savings or chequing accounts. Your loan insurer may flag unusual deposits to confirm that you haven’t taken out a new loan and that the money is coming from acceptable sources.
For example, the deposit should not come from a party who could benefit from the transaction such as a real estate agent or the home seller.
You need to provide the proper documentation and receipts in case you got money by selling your car or receiving payment for a personal loan.
You should also report all of your income streams when applying for the loan, so unusual deposits may indicate you have undocumented sources or side gigs.
In the end, it’s okay as long as you can prove the legitimacy of the deposit. The lender will not take an IRS tax refund or regular wages from your employer against your mortgage application.
Learn more: 4 Ways to Manage Your Mortgage After Divorce
7. Incomplete documents and errors on your request
Your potential lender wants to know the full history of your finances, so they need a copy of your tax returns for the past two years. They may also ask you for your recent pay stubs and W-2s.
You must provide all documentary requirements such as photo ID, credit reports, rental history, and bank statements. Most lenders will also ask you for a written statement explaining the imperfections in your credit history.
Finally, review and recheck your mortgage application forms and requirements before submitting them. Spelling mistakes, wrong information, and incomplete attachments can slow down the process or even lead to rejection.