Guest Author: Keegan Pafford
They say there’s a first time for everything. And if obtaining a mortgage is the next first on your list, you’ve come to the right place.
To ensure your first-time is the best time, we compiled a list of five easy-to-follow tips that help ease the burden of applying for a home loan.
Your elegant new address is perfect in every way, shouldn’t the financing process be too?
Know Your Credit Score
Because lenders don’t know you personally, your credit score is used to gauge your creditworthiness.
According to the Federal Reserve Bank of New York’s Household Debt and Credit Report (Q3:2020), nearly 96% of mortgages originated in the third-quarter had an Equifax credit score of 660 or more. In contrast, just over 4% of mortgages originated had a credit score of 659 or less. Furthermore, the median credit score was 786, while the bottom 10% of credit scores began at 683.
If your credit score is below the figures above, you should think about a Federal Housing Administration (FHA) loan. Commonly used by first-time homebuyers, FHA loans are available to individuals with less-than-stellar credit.
To qualify, you must adhere to the following rules:
- FICO score of at least 580 = 3.5% down payment
- FICO score between 500 and 579 = 10% down payment
- MIP (Mortgage Insurance Premium) is required
- Debt-to-income ratio < 43%
- The home must be your primary residence
- You must have steady income and proof of employment
Do You Need Private Mortgage Insurance (PMI)?
Depending on your down payment, you may need to obtain private mortgage insurance (PMI). For loans greater than 80% of the home’s value, lenders require you to obtain PMI.
As an expense that’s added to your monthly (or bi-weekly) mortgage payment, PMI protects the lender in case you default on the loan. However, once your debt balance is equal to or less than 78% of the home’s value, PMI is automatically eliminated.
As a general rule, to avoid PMI, you should opt for a higher down payment. However, the National Association of REALTORS’ (NAR) Home Buyers and Sellers Generational Trends Report shows that most first-time buyers don’t heed this advice.
Consult With a Mortgage Broker
As intermediaries between you and the lender, mortgage brokers are the home-buying equivalent of financial advisors. Rather than swimming with the sharks on your own, a mortgage broker can help prepare your loan application, offer quality advice and ensure you receive a fair deal.
Best of all, their services are pro bono.
Because mortgage brokers are compensated by the lender, you don’t incur any advisory fees.
Furthermore, because mortgage brokers have relationships with many potential lenders, they can leverage competing offers and help secure the best terms. In contrast, when you work directly with a lender, it’s his or her job to sell the product with the highest fees.
Choose the Right Loan
At the outset, your broker (or the lender) will present you with a myriad of loan options.
The most common are:
- Fixed-rate mortgages
- Adjustable-rate mortgages
- Interest-only mortgages
To explain the first, a fixed-rate mortgage offers simplicity and predictability. By locking in the specific terms, your interest rate and mortgage payment remains constant throughout the entire term. And while 15 and 30-year terms are most common, fixed-rate mortgages are also available in 10, 20, and 40-year terms.
In contrast, an adjustable-rate loan’s interest rate fluctuates throughout the loan’s life. Often indexed to the U.S. Federal Reserves’ overnight lending rate, rising interest rates will cause your mortgage rate and payment to increase (vice versa).
However, both options are structured as ‘amortizing’ loans. An eloquent word ingrained within traditional finance-speak, the term amortizing means that both principal and interest are included within your mortgage payment. The dynamic allows you to gradually reduce the debt balance and pay off your mortgage over say, 20, 25, or 30 years.
As for the third option, an interest-only mortgage is just that – interest-only. Instead of repaying the principal during the loan term, you pay interest periodically and repay the full balance at the end of the term.
So which one should you choose?
Well, it really comes down to your personal preference. However, with interest rates near historic lows, a fixed-rate mortgage has never been more affordable.
If you breezed through the requirements above, don’t sprint to the open house just yet. After consulting with your broker and negotiating acceptable terms, obtain a preapproval letter from your lender. Within it, the lender will outline how much it’s willing to offer and when the offer expires (usually 90 days).
By obtaining the document, it shows real estate agents and sellers that you mean business. More importantly, though, it gives you an edge over other applicants that can’t demonstrate the same level of financial health.
While obtaining a mortgage may seem intimidating, it doesn’t have to be.
By creating a detailed roadmap and planning ahead for all of the procedural, and often boring, aspects of the process, you can spend less time worrying and more time enjoying your home search. Furthermore, if you follow the tips above, you’re prepared for anything the process may throw your way.
About the Author
Keegan Pafford is a loan officer with Gold Star Lending, LLC, an independent wholesale mortgage brokerage in Portsmouth New Hampshire. He is a Seacoast NH native with a passion for business and real estate investing. Contact him via Facebook or firstname.lastname@example.org if you’d like to discuss purchases, refinancing, or anything in between.