Buying your first home is exciting and nerve-wracking all at the same time. One of the most daunting aspects can be getting approved for your very first mortgage.
Luckily, this process doesn’t have to be scary. Sure, it’s a lengthy task and requires some legwork. Plus, getting a mortgage today is much harder than it was ten years ago before the housing crisis. Do it right, though, and you’ll wind up with shiny new keys in your hand and an affordable loan on your new home.
Let’s take a look at exactly what the process entails. You might be surprised by just how simple it is to get a mortgage.
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First and foremost–before ever attending an open house or searching for mortgage lenders–your focus should be on creditworthiness. Sprucing up your credit report can take time, so start this process early.
Your credit history and score will play an integral role in your ability to get approved for a new mortgage. They will also help lenders determine the interest rate to extend on your loan. Make sure your credit is in check before you ever start looking at homes.
The first step in this process is to obtain your current credit report. Keep in mind that you’re entitled to one free report a year from each of the three bureaus. If you’ve already used these, there are many other ways to get a free report. You’ll also want to check out these options for your credit score.
Once you get your reports, pick through them with a fine-toothed comb. If you find errors, dispute them right away with either the lender or through the credit bureau.
This may mean doubling down to pay off outstanding consumer debts or even student loans. You can use a method like the Debt Snowball or Debt Avalanche to hone your efforts. Clearing out these old debts will not only help your credit score. It will also boost your debt-to-income ratio.
If you have old, negative reports on your credit, due to extenuating circumstances in the past, it would be worth your time and effort to send out some goodwill letters. The worst that lenders can say in response is no. The best case scenario is that you manage to remove negative references. It can be a quick way to boost your credit score substantially.
Those are the things you should do to polish your credit. Now one you absolutely shouldn’t: don’t apply for new credit! This means credit cards, personal loans, and even auto loans. If you can avoid opening new lines of credit, do so.
The last thing you want right now is add hard inquiries to your reports. These not only have the potential to drop your score a few points, but seeking out so much credit in a short period of time can also look bad to mortgage lenders. Hold off until you’ve snagged your mortgage loan. Then, you can open that new credit card.
Honestly, this should be one of the first steps you take before making any purchase, large or small. It’s imperative to know where your finances stand and what you can honestly afford to buy at the end of the day.
Take a look at what you make, what you spend, and how much is left after you put money into savings each month. How large of a mortgage payment can you afford? Don’t forget to include expenses for property taxes and homeowner’s insurance, either. And don’t forget the additional expenses that come with home ownership, such as maintenance expenses. Check out our comprehensive list of costs to account for here.
Then, look at your savings. Hopefully you’ve been putting money aside for a down payment for a few years, knowing that you would eventually buy a home. Most conventional mortgage lenders want a down payment of 20 percent, though some will go to 10-15 percent. Specialized mortgage programs, though, give you the option to make much lower down payments.
If you don’t deposit a large enough down payment, your lender will force you to pay private mortgage insurance (PMI). You should do what you can to avoid this monthly expense, if at all possible. You’ll have to continue paying PMI until you have at least 20 percent equity in your home.
Don’t drain every penny of savings you have to pay a down payment, either. Pipes burst; people get sick, and cars still break down. You don’t want to be left without cash for unexpected, emergency expenses. Be sure to have separate savings for your down payment and your emergency fund.
Here’s a good guide for figuring out what you can realistically afford. Read it before you ever go house-hunting.
Mortgage pre-approval is when a lender takes a look at your financial situation and says, “We would likely approve you for [X amount of dollars] toward a home mortgage.” This is a good way to gauge the price range in which you should be looking.
To get preapproved for a mortgage, you’ll need to provide a few things. Make sure to know:
- Your monthly income
- Your monthly debts (such as bills and other debt payments)
- How much you have available for a down payment
- A rough idea of the price range in which you’re shopping
Then, start looking at different lenders. And don’t worry too much about dinging your credit score by shopping around. Credit scoring models will generally account for rate shopping. So they’ll lump your shopping for the same type of loan into a single hard inquiry. Depending on the scoring model, you’ll have between two weeks and a month to complete your shopping. Your best bet is to keep your shopping within a two-week period.
This pre-approval will also come in handy when you begin shopping for your dream home. Some agents require mortgage pre-approval before showing certain homes. This ensures they don’t waste time on buyers who wouldn’t be able to afford the property. If you and another potential buyer put in an offer on the same home, having pre-approval can be the deciding factor in your favor, too. The buyer knows that selling to you likely means a faster, easier selling process.
Also, you’re not bound to using the same lender(s) when the time comes to actually get your mortgage. It does make the process easier and faster, since they already have much of your information. But you’re also welcome to switch to another lender when you’re ready to get your mortgage loan (especially if you find a better rate).
Here is a great place to start if you want to see what sorts of rates mortgage lenders are currently offering.
Once you’ve found your perfect home, it’s time to lock in that mortgage. You can go with the lender that already gave you a mortgage pre-approval or you can look elsewhere.
There are a few questions to ask yourself when deciding on a mortgage product:
- How long do I want to be paying off this home?
- Do I need a government-backed loan or just a conventional mortgage?
- Should I choose a fixed or adjustable interest rate?
- What is a “good” interest rate right now?
You have plenty of options when obtaining a home mortgage, the biggest of which being how long you plan to take to pay off the home.
Mortgage products come in varying terms, with the most common being either 30-year or 15-year terms. With 30-year terms, you spread the loan out over a much longer period of time, so the monthly payments are almost always smaller. However, interest rates are often higher and you’ll pay that interest for twice as many years. This means you’ll pay substantially more interest over the life of the loan.
With a 15-year term, your monthly payment will be higher, since you are condensing the loan. You’re likely to snag a slightly lower interest rate, though. So you’ll also wind up paying a lot less in interest over time.
You can also take out a 30-year mortgage, but implement certain strategies to make it just as smart as a 15-year term.
Fixed Rate vs ARM
The next decision is whether you want your interest rate to be fixed or adjustable. It’s important to know the benefits of each.
Fixed rates are predictable. The rate is set and doesn’t change, so neither do the payments. The mortgage payment you make on day one is the same you’ll make at the very end. This makes them the safer, more reliable option.
Adjustable rate mortgages, or ARMs, on the other hand, will change with the market. Their interest rate is tied to standard industry rates and will adjust accordingly each year. This means your mortgage payment can fluctuate over time.
ARMs are a worthwhile option if interest rates are very high when you buy your home but you think they’re likely to drop in the near future. This way, your interest rate will drop automatically with the market. However, keep in mind that they can also go the other direction.
Another option is to get a fixed rate mortgage, and then refinance down the line if interest rates drop significantly. Some lenders also offer hybrid fixed/adjustable mortgage options.
Spend some time researching mortgage trends and where rates sit when you begin shopping around. What is “average,” and what should you expect to find when seeking out a good rate?
If close friends or family have bought a home very recently, you can also ask around to see what sorts of rates they were offered. They may even have a good lender recommendation for you!
Now that you know what you want and need (and have a home picked out), it’s time to pick your lender.
As mentioned, this can be the same lender that already issued you a mortgage pre-approval or it can be an entirely new lender. Be sure to shop around and get rates from at least three or four different banks. This will ensure that you get the best price you can find.
You can start with your own bank or credit union, as these are usually good places to get initial rates. Ask family and friends who their lenders are and what their experience has been. Be sure to also ask your real estate agent who they would recommend and who their clients often use.
Okay… you’ve picked a home; you’ve picked a mortgage product, and you’ve picked a lender. Time to get the ball rolling on that loan.
You’ll need to gather some financial information in order to move the process along. Be sure to have:
- W2s and 1040s from the past two tax years
- Your previous three months’ pay stubs
- The past three months’ bank statements for both checking and savings accounts
- Identification (a copy of your driver’s license or ID and your SSN)
- Proof of other income sources, if using them in your overall monthly income
- Specifics regarding installment debts, like student or auto loans
Your lender may want more or less, but it’s wise to have at least these items on-hand for reference.
Fill out your chosen lender’s mortgage application form and submit all required paperwork. Then, wait to hear back with the results (usually within a few days). They will come back with a loan estimate, which will tell you the current interest rate they’re offering, closing costs and fees associated with the loan, and how much your home will cost you in the end.
If you think you can get a better interest rate, you may want to wait for them to drop a bit or even shop around further. If you’re happy with the rate offered, lock in the loan while you can.
Once you decide to move forward and the lender approves you for the loan, the underwriting process will begin. You’ll be assigned a mortgage underwriter who will oversee the process from this point and be your contact person for the loan.
At this time, the mortgage company will want certain evaluations done on the home. This includes a home appraisal, which ensures that they aren’t lending more for the home than it’s worth. You’ll also want to schedule a home inspection, to see if there are any hidden concerns with the property.
If the inspector or appraiser find anything, you can negotiate with the seller to either make repairs or lower the price of the home to compensate.
At this point, you may feel like you’ve been in the mortgage process for ages. It’s almost over, but there are a couple more steps in order to actually close on the property and get your keys.
First, you’ll need to finalize the last few things with your mortgage. This includes picking a homeowner’s insurance policy, which lenders will require. Then you’ll need to decide whether or not you want to purchase points on your mortgage to lower your interest rate. You’ll also need to figure out whether you can write a personal check for your closing costs or whether you’ll need to go get a cashier’s check from the bank beforehand.
You’ll want to walk through the home one last time, especially if the seller agreed to complete certain repairs prior to closing. You can also make sure nothing has changed or been removed from the property that was supposed to remain.
Closing day will finally arrive, and it’s time to sign your John Hancock (seemingly) a thousand times. You’ll hand over your check to cover the closing costs before sitting down with your agent, the seller, and title agent(s) to complete the process. Either side can also have attorneys present, if desired.
Once the process is complete and everyone has signed all of the dotted lines, you’ll walk out of the title office a brand new homeowner. Congratulations!