In order to pre approve you for a home loan, the bank will look at 5 major factors. The first and most important is budget. Many believe that their credit score would top the list, but even a perfect credit customer cannot purchase a home is they do not budget. A person’s budget or DTI (debt to income ratio) is a ratio of monthly obligations such as a car or credit card payment to their gross monthly income. Keep in mind that the income is factored in before taxes come out so an individual receiving social security income or disability may actually appear to make more on paper. Any debts that would not be paid off is less than 6 months after the mortgage starts will be included in the monthly obligations to include child support.
The second thing a bank looks at is a person’s credit history. If certainly helps to have good credit, but banks can overlook this portion of the process if everything else falls in line. The higher the credit score, the lower in the interest rate will be and typically the less one has to put down. A mid score of 620 or above is generally what banks look for although some banks will finance regardless of the credit score with enough money down. Banks will also look for recent bankruptcies, foreclosures, liens or judgement on a credit report. Banks typically will not grant a home loan to anyone who has been out of bankruptcy for less than two years since they like to see that a borrower has had time to reestablish themselves since the event. In addition to this, any state or federal tax liens that show up on the credit could also stop a deal in its tracks.
The third factor a bank looks at is down payment. Although a few government loans such as USDA and VA do exist for $0 down loans, the majority of buyers must put down at least 3.5% in order to purchase a home. Again, the lower the credit, typically the more a borrower must put down.
The fourth thing a bank looks at is job time. A borrower who has been at the same job or at least in the same industry for two or more years is usually looked at more favorably. It is not a requirement to be at the same job for that length of time, but loans such as FHA require a two year work history at the bar minimum.
The final item a bank looks at before they make a decision is what is referred to as reserves. This is typically a savings account, IRA or 401k that could be tapped into in order to pay the mortgage if the borrower was to come upon financial hardships or loose their job. Having a significant amount of reserves is not a requirement to get a loan in most cases, but it certainly helps, especially if there are some credit issues that need to be offset.