When lenders are considering to extend loan, they must assess the three areas of underwriting collateral, credit reputation and capacity (named three "Cs").
When reviewing collateral, lenders look at house value, down payment and property type.
Appraised value of the house
The lender wants to make sure that the value of your home would support the amount of your mortgage. Usually, the amount of your loan can be no more than 95 percent of the appraised property value or 95 percent of the sales price of your home, whichever is less.
The lender will arrange to have a professional appraiser estimate the market value of the house you plan to buy. The appraiser looks at what the home is worth today and how the neighborhood may affect future property value.
Lenders usually expect you to make a down payment of between 10 and 20 percent of the house's price and to pay closing costs, often three to six percent of the loan amount. There are many special programs for first-time home buyers and low- to moderate-income home buyers that allow a smaller down payment - as low as 3 percent, or even no down payment, in some cases. To know more, visit our page Types of Mortgage Loans. With the smaller down payment loans, however, borrowers are required to carry Private Mortgage Insurance.
Lenders may also verify the origin of your down payment.
When looking at capacity, your income, debt, and cash reserves are verified. Supplying the lender with all necessary documents will significantly speed up the application process. All of these things can help the lender understand how well you might repay a mortgage loan. Lenders generally prefer that your housing expenses (including mortgage payments, insurance, taxes, and special assessments) not exceed 25 to 28 percent of your gross monthly income. Other long-term debt (monthly payments extending more than 10 months) added to your housing expenses should not exceed 33 to 36 percent of your gross monthly income. Click on How Much You Can Afford to Borrow for getting a more specific idea.
Your credit history are considered when lenders are reviewing credit reputation. Lender orders a Credit Report, supplied by a credit reporting agency, on you to check your ability to repay a loan. If there any credit problems - a history of late payments, foreclosures or judgments, your lender may then ask you for a written explanation or clarification of any problems.
If you are denied a home loan, the lender is required to explain the reasons. It is important to understand why the loan was denied, because you may be able to find answers or alternatives that will satisfy the lender.
If the application is found acceptable, the firm commitment is issued to the borrower and the lender prepares for the closing of the mortgage.
There are several federal laws which provide you with protection during the processing of your loan. The Equal Credit Opportunity Act and the Fair Housing Act identify a number of factors that are illegal to use in evaluating a prospective applicant’s qualifications: race, color, religion, sex, national origin, marital status, age (provided the applicant has the legal capacity to contract), source of income derived from public assistance, handicap, familial status (families with dependents under age 18).
The Fair Credit Reporting Act were designed to ensure fair and accurate consumer credit reporting.
Another consumer protection statute is the Real Estate Settlement Procedures Act. Under this act the lender within three days of receipt of the application must give the borrower a Good Faith Estimate of settlement costs, which lists the charges the buyer is likely to pay at settlement, and a Mortgage Servicing Disclosure Statement, which discloses to the borrower whether the lender intends to service the loan or transfer it to another lender. The Real Estate Settlement Procedures Act also allows the borrower to request the HUD-1 Settlement Statement that shows the actual settlement costs of the loan transaction one day before the actual settlement.
Under the Truth-in-Lending Act lenders within three days of receipt of the application must give the borrowers a Truth and Lending Statement, which disclosures the Annual Percentage Rate (APR) on the loan -- a measure of the cost of credit, expressed as a yearly rate.
While processing a loan many creditors use a system called "credit scoring" to estimate your creditworthiness. In credit scoring system statistical methods are used to determine whether to give you a loan. Using this method lenders can make decisions faster and more accurately.
Federal Trade Commission prepared the brochure to answer some questions about credit score system. Based on how well you score, a creditor may decide to extend credit to you or turn you down. This publication illustrates how credit scoring system works.
Another publication, 'Credit Scores', written by the Federal Home Loan Mortgage Corporation (Freddie Mac) will acquaint you with available types of credit scores, FICO score, their accuracy and fairness .Though this brochure is intended for lenders mainly, it can be also interesting for borrowers.