As a homeowner and an investor, I talk a lot about real estate, but real estate is expensive. There are few if any, of us with the capabilities of buying real property with cash. Even some of the people who are in a position to do it, choose to leverage their net worth and maximize their purchasing power using borrowings. In a consumer-driven society, lending is king and is an effective way to boost purchasing power. We hear about rates, banks, and borrowers. Everyone talks about how you have to have a good credit score and some type of down payment. However, the discussion usually does not expand beyond these points.
I have put a little guide together that might give you a better understanding of why they request the documents they do. Most importantly, I hope it helps you prepare your finances so you present yourself as the type of borrower they wish to lend to.
The first thing the lender will do is look at your credit history to determine if you are “credit-worthy”. In the simplest of terms, they will look at your credit score and history. These 2 things will tell them whether or not you pay your bills on time, every time. This will help them decide if they even want to move forward without or if the risk is too great that you will turn out to be a problem borrower and will default, leaving them holding the bag.
This evaluates your ability to take on any additional debt and pay on time. This is what they mean by “debt-to-income ratio”. You may be very good at paying all your bills, but if you are breaking even every month, you are likely not able to continue meeting all your financial obligations should you take on more debt.
Also known as “protection”, collateral is something that you own but a lender puts a claim on it, as a way of protecting their investment. The law allows them to take possession of that asset to offset any loss from you not paying your debt. In real estate, the asset used as collateral is the very property you’re buying. In rare cases where the loan is more than what the purchased property is worth, you can use another property as a second piece of collateral.
That is usually liquid assets that you may have. Primarily they want to see that you have the ability to give a down payment or at the very least pay your closing costs. If the purpose is to get an investment property, they want to see a few months worth of reserves should you have vacancies. It’s also a way to evaluate whether or not you have other sources to tap and make payments if you were to ever lose your job.
This is the purpose of the loan. Some loans are higher risk than others depending on their purpose. Not all real estate loans are created equal. A loan for a residential building will have a better interest rate than a loan for a strip mall because of the risk involved. A used car loan will also be more expensive than a new car loan. Whether it’s an equity line or a purchase or refinance will also matter.
I hope this will give you a better understanding and some of the information you need to prepare for a successful mortgage application.
This topic was originally featured on www.discernher.com on January 17, 2017
Ana is a real estate investor who has worked in banking and finance for the past decade. She is passionate about wealth building, female empowerment, and financial literacy. She’s a self-described “personal finance nerd” who understands the wealth gap and economic inequality, and how they relate to gender and race and is committed to educating those who wish to level the playing field. You can Follow her on Instagram @karibefrost and her blog www.discernher.com