The following is a guest post by Alene Laney, of Pennies to Paradise.
Tighter lending requirements mean it’s more important than ever for homebuyers to get their finances in order. Those that do will be rewarded with great mortgage rates, lower payments, and a home that provides comfort and security for years to come.
Lenders Are Worried about Delinquency
As the COVID-19 pandemic wears on, banks worry most about a borrower’s ability to make mortgage payments.
With nationwide unemployment around 6% and mortgages in forbearance nearing 2.7 million, lenders have reason to be worried!
Mortgages have been affected by this worry. Availability of mortgages decreased by approximately 16% in March and around 12% in April, according to the Mortgage Bankers Association’s (MBA) Mortgage Credit Availability Index.
Those most affected include homebuyers with lower credit scores, higher levels of debt, and those buying homes with a higher loan-to-value (LTV) ratio.
However, homebuyers with strong credit scores, low debt levels, and better down payments have access to historically-low interest rates on mortgages.
If you’re interested in becoming a homeowner during the pandemic, there are some key things that will help ensure your credit and finances are ready for the tighter lending standards implemented amidst the pandemic.
A Good Credit Score Is Essential for a Successful Mortgage Application
Lenders look very closely at your credit score when deciding whether to approve your mortgage application.
A credit score is essentially a summary of your financial habits. Do you pay your credit cards on time? Do you have a varied credit history with at least a couple of different credit issuers? Do you use too much credit?
There are certain credit standards and even score requirements you will need to meet. In fact, for the month of April, 93% of conventional borrowers had a credit score over 700.
However, if you have a lower credit score, there’s still hope. One solution may come in the form of FHA loans. While borrowers with credit scores above 600 have a greater chance of qualifying, a lower score isn’t doesn’t exactly exclude you from approval. There’s a very slim possibility of approval if your credit score is below 600. Borrowers with a lower credit score will have to put a 10% down payment to qualify, according to the FHA.
Your credit score is crucial because it shows the lender how much risk you present to them. If you have a long history of paying all your bills on time and don’t overutilize credit, your credit score will likely be higher. You represent less risk to the lender and will likely be rewarded with an approval and a lower interest rate on a mortgage.
If you have a credit card or have taken out other lines of credit, your credit history began when your payments were reported to the major credit reporting agencies.
If you’re meeting your financial obligations, you likely have a high credit score, which you can check on Credit.com.
Know What Factors Go into Increasing Your Credit Score
Once you know where your credit score is, you can work to improve it. There are several factors credit reporting agencies use to determine your score. They include:
- Payment history
- Credit utilization
- Types of credit used
- How long you’ve been using credit
- Total balances on all debts you owe
- Public records (like bankruptcies)
- The number and recency of credit accounts you’ve applied for
Credit utilization, length of account history, and on-time payments go a long way toward increasing credit score. Some quick tips to increase your score:
- Request a credit increase. If you’ve been paying your credit card on time regularly, ask for a credit line increase. You don’t want to utilize the extra credit, but having access to more credit will decrease your credit utilization rate. This, in turn, can help increase your credit score.
- Pay down balances. Another way to decrease your credit utilization rate is to pay down your balances. You don’t want to be close to your limit. You want your credit card to look like you have $100 in debt owed on a $2,000 credit card. If you only use credit for purchases you could make with cash, and then pay the balance off each month, your credit utilization will be very low and your credit score will be very high.
This has the added benefit of decreasing your debt-to-income ratio lenders use to approve your mortgage, which will help you buy a home.
- Don’t close accounts you’ve had forever. If you still have the first bank account you opened when you were five, keep it. Okay, that is a bit of an exaggeration, but your older credit accounts do help you. Even if you don’t use the older accounts, it shows a long credit history, which will ultimately help keep your credit score on the higher side.
- Keep paying your bills on time. It’s boring advice, but it really is key. The longer you show you consistently pay what you owe and pay it on time, you will build good credit.
- Automate payments. Even if you only select the option to “pay the minimum balance” you’ll always have your bills paid on time.
Save, Save, Save.
Homes with high loan-to-value (LTV) ratios are some of those most affected by the tighter lending standards. In other words, if you have a small down payment and need to borrow a greater percentage of the value of the home, your odds of approval may go down.
A stronger down payment can help ensure you get the home you want with the mortgage terms that are right for you.
Increase Income, Decrease Debt
Borrowers with a debt-to-income (DTI) level that is too high are less likely to get approved for the mortgage they need. Work to decrease your debt while increasing your earnings. Lenders look for a DTI around 36% with no more than 28% going towards your mortgage.
Start Working with an Agent and Lender/Mortgage Broker
A professional team can help you navigate the legal and financial obstacles you’ll encounter in the real estate process. A great team is worth their weight in gold, especially when it comes to buying a home in the middle of a pandemic with strict lending standards.
Buyers who are careful with their credit and finances can buy a home in this market with very favorable terms. Getting those terms is harder than it used to be, but with some planning and attention to finances, homeownership is just as close as it’s ever been.
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