Getting approved for a home loan involves far more than just your credit score. Mortgage lenders take a deep dive into your full financial profile to assess risk and eligibility. Understanding how lenders evaluate borrowers can help you strategically position your finances to qualify for the optimal loan program and terms.
Reviewing Your Credit Reports and Scores
A borrower’s credit reports and scores are the first items lenders evaluate. They get these reports from the three major credit bureaus: Experian, Equifax, and TransUnion. These reveal your past repayment history, current debts, collections, liens, and other factors that speak to financial responsibility.
They also review your actual credit scores from each bureau. Most lenders look for minimum scores in the fair to good ranges (typically 620+). Higher scores qualify you for lower interest rates and indicate you consistently manage credit well. However, scores alone do not tell your whole story.
Verifying Your Income and Employment
Lenders need to confirm you have stable income to make mortgage payments long term. They will request W-2s, paystubs, and tax returns to verify your income sources and amounts earned. Be prepared to explain any gaps in employment or income fluctuations.
Self-employed borrowers have to provide even more documentation like business tax returns and bank statements. Proof of consistent income is key to securing financing. Lenders also want to see you’ve been employed in the same industry or role for some time. Job-hopping can be a red flag.
Evaluating Your Assets and Reserves
While income pays the mortgage each month, lenders also review your assets and cash reserves. Large deposits in your bank accounts will need to be sourced to ensure it’s not borrowed money. Lenders also want to see you have enough reserves to cover mortgage payments should you face temporary hardship like job loss or disability.
Typically, you need reserves equal to 6-12 months of principal, interest, taxes, and insurance payments. Retirement accounts and investments can count toward reserves in addition to savings and checking accounts. Robust reserves provide lenders reassurance.
Understanding Your Current Obligations
Mortgages represent large, long-term financial obligations. To assess if you can prudently take on mortgage payments, lenders carefully evaluate your existing monthly obligations.
They review your credit reports to see all current balances on revolving and installment debts like credit cards, auto loans, student loans and more. According to the experts at Mortgage Maestro based out of Colorado, mortgage lenders want your total monthly obligations, including the new mortgage payment, to remain below a certain percentage of your gross monthly income.
Checking for Past Issues
Mortgage lenders understand borrowers aren’t perfect. Late payments, collections, or even foreclosures in your past don’t necessarily make you ineligible. Rather, lenders look at your overall repayment patterns, and want to hear you explain past issues.
For example, medical issues that temporarily impacted your finances may be understandable. Evidence you’ve since gotten back on track financially helps reassure lenders. Letters explaining past credit issues in detail are often required.
Evaluating Your Down Payment
Finally, the amount of down payment you’re able to put down also factors into loan eligibility. In general, lenders see larger down payments as less risky. Borrowers with 20% down or more qualify for the best loan programs and rates.
Your credit reports and scores provide the foundation, but lenders consider your entire financial situation when underwriting mortgage loans. Employment, income, assets, obligations, past issues, and down payment all work together to provide a complete picture of your ability to repay over 30 years. Taking steps to strengthen your profile in all areas leads to better loan offers.