Everything You Need To Know About Mortgages
How To Get A Mortgage
If your dream is to own a home, you’ll probably need a mortgage to make that happen. Owning a home can have massive upsides both in freedom and payments, but it’s a complicated process. Mortgages are the largest loans most lenders ever write, so they need to protect themselves.
Mortgages have never been simple to get, but they used to be a lot easier. Just about anyone could get one with very little documentation.
Ever since the financial crisis of 2008, mortgages have been a bit harder to come by. You need to make sure you have your ducks in a row before you ever even begin looking for a house, much less a home loan.
Getting Pre-Approved For A Mortgage
You want to stand out in a competitive market. You want to make sure the seller knows you mean business, and you’re putting a genuine offer on the house they’re selling.
You also want to make sure you’re not getting yourself in over your head or becoming “house poor” with a mortgage that's too high for you.
The best way to do this is to get pre-approved for a mortgage. By the time you’re ready for pre-approval, you should be planning to buy your next home soon.
Pre-Qualification versus Pre-Approval
Mortgage pre-qualification and pre-approval are not one and the same. But they do sound incredibly similar.
When you’re pre-qualified for a mortgage, that means a lender has taken an informal look at your finances and said: “okay, we could probably offer you a loan of this amount.” A pre-qualification is a great place to begin, but it doesn’t really mean much.
If you’re unsure about your plans or your financial situation, start with getting pre-qualified for a mortgage. It will show you what your best options are for buying a home.
Being pre-approved for a mortgage is a much more intensive process. It will require the lender to pull your credit report, and it’s basically a guarantee. When you’re pre-approved for a mortgage, you know exactly how much you can borrow and at what rate.
A mortgage pre-approval is the closest thing to a sure bet you can present to the selling agent.
Steps to Pre-Approval
There are a few things you should do before you attempt to get pre-approved for a mortgage. The first is to start saving for that down payment.
Depending on the type of mortgage loan, you’ll need anywhere from three to 20% down. The different types of mortgage loans are a whole other post in themselves. Regardless, you’ll need to prove you have this down payment before a lender will pre-approve you.
You’ll also want to check your credit score and report. Dispute any errors you find, and work on increasing your credit score as much as possible. The better your score, the lower your interest.
On top of all that, you’ll need proof of income, tax forms, and anything else the lender requests to verify you can actually afford the loan. I know, it’s a lot.
Finding A Home That Works For You
So you’ve been pre-approved. Congrats! What does that mean for your mortgage?
Well, it means it’s time to get serious about finding your next home. Generally, pre-approvals are good for 90 days. If you wait too long, you’ll have to go through the whole loan origination process again.
Now that the clock is ticking, get out there and start looking for your next home.
Don’t Be House Poor
In most cases, the bank will pre-approve you for a much larger mortgage than you should even consider taking. If you do take the full amount of your loan, you risk becoming house poor.
Being house poor is when such a large percentage of your assets are tied up in your home that you don’t have many options. It may take disproportionate amounts of your income just to pay your mortgage each month.
Don’t be house poor.
Consider how much house you actually need and can afford while still pursuing your financial goals. Generally, housing shouldn’t cost more than 30% of your monthly take-home pay.
Your house should add freedom and flexibility to your life. Taking a mortgage loan that's at the top of your borrowing limit is a recipe for disaster. Don’t let your mortgage trap you.
Think Like A Business
It’s easy to get caught up in all the trappings and furnishings of buying a new home. Don’t do it. You're getting a loan after all, make sure it makes financial sense.
Instead, think like a business. Pay careful attention to the numbers, and only use your mortgage for a house that makes sense for you and your family.
I’m not just talking about financial numbers here. How far would you have to commute? How close is it to school for the kids, and is that school any good?
What about the distance from things like grocery stores, entertainment, and family?
Much like a business, you should carefully consider all the hard numbers of a potential house before you submit an offer. A mortgage increases your debt load significantly. Tread carefully.
Submitting An Offer and Getting Approved For A Mortgage
When you have a pre-approval, submitting an offer is a lot easier.
You’ve already done most of the leg work, so the lender and the seller both know that you’re serious. Your mortgage is much more likely to get approved.
This doesn’t mean you’re guaranteed to get the mortgage though. There still has to be an underwriting process, and the bank has to verify the value of the loan.
A bank won’t approve a $300,000 mortgage on a house it says is worth $60,000. Lenders need their mortgage loans to make sense.
The Underwriting Process
When you attempt to put an offer on a home, the loan will have to go through a process known as underwriting.
Essentially, someone (or some computer) at the bank has to check all the documents you’ve provided about both you and the house. They’re thinking like a business here, so they need to make sure the numbers shake out. They don't want to approve a bad mortgage loan.
They can’t approve a mortgage that wouldn’t be valuable to them. They want to know that you can afford to pay, and that the home is worth at least as much as the loan.
Once both of those things are verified, the mortgage should be approved.
Documents You Need
To go through this loan process, you need a lot of documents. I mean a lot.
The lender will check your credit history themselves, so no need to worry about that. It's also okay to look for mortgages at multiple banks to compare rates, just do all your comparison shopping within 30 days to avoid unnecessary hits to your credit score.
You’ll want to have W-2s from at least the last 2 years showing how much you made, as well as any other documentation of income outside of traditional W-2 employment.
Just a quick sidebar here, it can be more difficult to get approved for a mortgage if you’re self-employed. There are generally more hoops you have to jump through to prove your income is stable, consistent, and reliable. That’s just the name of the game.
On top of that, you’ll need proof of your assets. Think bank account and investment statements. This is so the bank can prove you can actually afford the down payment and still have enough liquidity to pay for other necessary expenses. You know, like food and clothes.
You’ll also have to have documentation on the home, including an appraisal showing it is worth the amount of the mortgage. Spend the money to hire your own independent appraiser here so you know they’re working in your best interest.
Conclusion
Getting a mortgage is complicated. It takes a lot of steps and careful preparation.
It also generally takes years of planning. Most of us don’t end up with tens of thousands of dollars for a down payment by accident.
If you know you’d like to own a home at some point, it’s a good idea to go ahead and start saving for it now. You can start small, and let compound interest work its magic.
Then you’ll be ready when it’s time to pull the trigger on your new loan. I mean home.