How the New Lending Rules May Affect You
Before you go house hunting, understand how your student loans and side gigs could impact your ability to get a home loan.
If you vowed to become a homeowner this year, you may discover that recently adopted “new rules” affecting mortgage-loan approvals are creating substantial challenges—even for teachers.
In January 2014, the Consumer Financial Protection Bureau introduced policies to better ensure that borrowers can repay loans. More extensive presentation of pay stubs, asset documentation, tax returns, etc., all will be needed so that lenders can properly assess a potential homeowner’s financial fitness.
“Qualified mortgages” are now capped at 30-year terms, and fees/points can account for no more than 3 percent of the loan’s value. Fortunately, an estimated 95 percent of mortgages fall into this category.
Here’s the most significant change that could impact a large number of teachers: A borrower’s total debt payments—including credit card balances, car loans, student loans, etc.—shouldn’t exceed 43 percent of one’s income. Considering that many teachers are paying off their student loans, this change could prove challenging.
“In addition, qualified mortgages will not offer many features that would normally lower a borrower’s monthly payment,” says Eric V. Small, founder of TheLoanXperts.com, an advice site for loan seekers. “These include interest-only options, balloon payments and negative amortization.”
PREPARE TO GET APPROVED
Clearly, would-be homebuyers face stiffer tests to validate their fiscal fitness. To improve your chances of getting the loan—and the home—you want, use this checklist to make sure you’ll present a great financial picture to lenders.
Cover the paperwork basics. This is the bare minimum of what you should bring to the table to qualify. According to Patrick Ruffner, a national relocation manager for Chicago-based Guaranteed Rate, all applicants must gather the following:
- your two most recent pay stubs (displaying your name, employer, current address, the pay period and year-to-date income totals);
- W-2s for the most recent two years;
- full, personal tax returns for the most recent two years; and
- the most recent monthly or quarterly statements from your checking, savings, IRA, retirement and investment accounts, with the full account name, number and name of institution.
That information helps banks evaluate whether candidates can afford the financing terms they seek. “You’ll have to show that you have enough cash set aside to pay no less than 3 percent of the intended sales price,” says Small, who consults for mortgage banks and counsels teachers and other public-sector employees on financing issues. “If you want to avoid mortgage insurance, you’ll need no less than 10 percent.”
You also may be asked to provide documentation to prove that you’ve paid bills on time for least the last 12 consecutive months, Small says.
Build your credit score. Expert opinions vary, but the minimum “safe” credit score to buy a home now appears to be 640. “A borrower can obtain a conventional loan with a score of 620 but must put down a minimum of 20 percent to qualify with this score,” Ruffner says. “In addition, many lenders have their own requirements on the credit score and may require a higher score or down payment.”
One way to pump up your score: Don’t pay off the entire balance on your credit cards every month. Although paying them off entirely seems financially sound in most circumstances, that can actually hurt you at approval-review time.
“It’s a common mistake for home-loan candidates,” says Gloria Shulman, founder of Centek Capital Group, a Los Angeles-based residential and commercial mortgage banker/broker firm. “They think, ‘Let’s pay off the credit cards so we look great.’ But it’s better to keep a 10 percent balance of available credit and make regular monthly payments on it so you demonstrate the ability to pay down debt every month.”
Read our article, “With a Better Credit Score, You Can Afford More” to find out more about how to raise your score.
Get your scores in writing. Request your credit report from all three of the major bureaus before you apply for a home loan. A good score from one bureau doesn’t necessarily carry over to the others, so you’ll want to see what information they all have about you.
Ditch retail-store credit cards. If you’ve loaded up on retailer credit cards to take advantage of tempting discounts, you could hurt your chances. “Lenders don’t like them,” says Shulman, who has worked for three decades as a mortgage broker. “And many cards have fine print that charges you for ‘perks’ that you won’t see coming until it’s too late.”
Pick a home loan based on your timeline. To come up with a suitable loan arrangement, estimate how long you’ll be in this new home. If you believe your teaching job is very stable and you don’t envision moving for a long time, then a traditional, 30-year arrangement makes sense. But if you view this purchase as a “starter” home and plan to move out in a few years, then an adjustable plan may be more appealing.
“Interest rates for five- to seven-year adjustable rate mortgages (ARMs) are even lower than the historically low rates for fixed loans,” Shulman says. “They’re ideal for young buyers. You can buy a starter home at a lower rate, and it will turn out to be a strong investment when it’s time to sell.”
Seek pre-approval. With a good credit score in hand, buyers should pursue pre-approval from a lender before looking for a home. A lender will help consumers identify potential credit issues and evaluate relevant factors such as employment/salary history.
“There’s a plethora of mortgage products in the market, so talking to a few different lenders will give consumers a professional’s perspective on their options,” says Richard Whitman, vice president of residential lending at Texas Trust Credit Union, the largest credit union mortgage lender in north Texas. “This should be done well in advance of looking for a house so the borrower knows whether they qualify and for how much. The lender can also provide tips for what the borrower can do to improve their financial situation.”
Weigh the pros and cons of work-related tax deductions. Writing off unreimbursed expenses for educational supplies makes sense, but it could backfire in terms of home loan approval. That’s because you’ll bring down your reported income level in the process.
“Most banks will subtract these expense deductions from your yearly income,” Small says. “It may not seem like a big deal, but I’ve seen highly qualified borrowers loans denied due to an income adjusted downward by just $100 a month.”
Choose moonlighting gigs wisely. Teachers often take on second jobs or summer work, which gives them an advantage, especially in light of the stricter debt-to-income standards. However, you won’t be able to cobble together a string of disconnected summer gigs to prove your earning power.
“Income from second or part-time jobs must be received for two years before it can effectively count toward reducing the debt-to-income ratio,” Ruffner says. “Such secondary earnings must be proven as consistent over at least this period of time.”
READY TO APPLY FOR A MORTGAGE?
You can find competitive interest rates through the NEA Home Financing Program, offered by Wells Fargo Home Mortgage. And when you close your purchase, you can receive a $500 award card through the My Mortgage Gift Program. Click here for details and to apply for a home loan.
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You’ll find competitive interest rates through the NEA Home Financing Program, offered by Wells Fargo Home Mortgage.
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