Financing 101

What You Need To Know Before Taking Out A Mortgage

For most buyers, the mortgage financing process is very mysterious and full of all sorts of uncertainties. It’s really not nearly as complicated as it might seem but you do need to be prepared for the unexpected and ready to provide your lender with whatever is requested.

Mortgage financing is a bit like a jigsaw puzzle, but the puzzle pieces are things like bank statements, tax returns, W-2s, employment, mortgage and rental histories, credit reports and letters of explanation. As the puzzle starts to come together, new questions often emerge, which require explanation or additional documentation.

It all starts with your loan officer, who makes sure you fit the guidelines of the loan program. Once you submit all your necessary paperwork, the processor assembles all of your documentation and sends it off to the underwriter.

The underwriter is the person who makes the final decision. But unlike your loan officer, who is always in your corner, the underwriter is paid to make sure there aren’t any question marks or risks that could jeopardize your ability to repay the loan.

So even though you seem to clearly meet the underwriting guidelines, the underwriter may ask for additional documentation once the file comes across his or her desk. And that’s usually when buyers start to worry. But rarely does an underwriter come across something that turns out to be a deal-breaker.

It could be something as simple as providing an extra bank statement or explaining something on your credit report. Or perhaps an item in your purchase contract may conflict with a specific underwriting requirement (e.g. a clause stating the seller can rent back for up to 60 days, while the loan guidelines require it to be ‘less than 60 days’).

If you’re using a reputable, experienced local lender and he or she tells you up-front that you qualify for the loan, unless you withheld some critical information, you should ultimately be approved. Yes, you may encounter a few pebbles in the road, but it’s doubtful that an insurmountable boulder would cause you to lose the loan.

If your loan officer has been doing this for years, you can be sure that he or she will let you know if something pops up that could be a cause for concern. If they’re not worried, there’s probably no reason for you to worry either.

When we’re representing a buyer, we stay in regular contact with our client’s lender and are always on the lookout for potential roadblocks or things that could delay the close of escrow. We speak the lender’s language but we also know how to put their lender-talk into concepts our clients can understand. So usually a simple explanation is all it takes to ease our clients’ minds.

THE 3 MOST COMMON MORTGAGES

CONVENTIONAL LOANS

Conventional loans fall into two categories -- Conforming and Non-Conforming (also known as Jumbo loans).

Conforming loans meet Fannie Mae/Freddie Mac guidelines, which are generally the same from lender to lender. The maximum loan amount, however, can be differ from one county to another, which can be a huge issue for buyers considering homes in more than one county.

In Solano County, for example, the 2019 conforming loan limit is $494,500, which is substantially lower than the $726,525 limit that’s just across the bridge in Contra Costa County. So if you’re approved with a lender based in Contra Costa and start out looking for homes in Martinez but later decide to check out Benicia, unless your lender is aware of the lower loan limit in Solano County, you could be in for a huge shock.

For while you could put 10% down on a $650,000 loan in Martinez, you’d either have to put almost 25% down to use a conforming loan in Benicia or switch to a Jumbo Loan.

Unlike Fannie & Freddie, there are no standard guidelines for jumbo loans. Loan limits, underwriting requirements, reserve requirements (how much money you need to keep in your bank account after making your down payment) will vary from lender to lender. And the interest rate on a jumbo loan is often higher than its conforming counterpart, too (typically between 1/4 and 1/2 percent, but there are times when both rates are almost the same).

Interest rates on both conforming and non-conforming loans are heavily determined by the borrower’s credit scores. Those with stellar credit and higher down payments get better interest rates than those at the other end of the spectrum.

FHA LOANS

FHA loans are guaranteed by the Federal Housing Administration, which is an arm of the Dept. of Housing & Urban Development (HUD). FHA doesn’t actually make the loan but rather insures the lender against a percentage of losses should you fail to make your payments.

FHA loans allow smaller down payments (as low as 3.5%) along with higher debt-to-income ratios, so they often appeal to first-time buyers as well as those with lower credit scores. What’s more, the entire down payment can be a gift, which isn’t possible on a conventional loan. And interest rates on FHA loans are often lower than they are on a conventional loan. For 2019, the maximum loan amount for conforming and FHA loans is the same locally.

So why wouldn’t everyone want an FHA loan over a conventional loan? Well for one, FHA loans require mortgage insurance, which increases the monthly payment. Also, you must be an owner-occupant, so FHA loans won’t work for investors. And because these are riskier loans, FHA is more restrictive on the condition of the home, so it might require fix-ups that the buyer would prefer to take care of after escrow closes.

FHA doesn’t want a buyer who may have spent every last cent purchasing the home to get stuck in a money pit, so it requires the appraiser to complete a detailed analysis of the condition of many of the home’s components. An FHA appraisal can be almost like a mini home inspection and if anything doesn’t pass muster, it must be corrected before escrow can close.

In many cases, the items an FHA appraiser may find are things the buyer would want corrected anyway, but if the home is being sold as-is or if the seller wants to offer a credit in lieu of repairs, that wouldn’t be a viable option.

VA LOANS

Only veterans in good standing can take out a VA loan. And you can only have one VA loan at a time, so if you already own a home with a VA mortgage you can’t take out another one until the previous one is paid off and you have the appropriate paperwork from the VA.

The biggest benefit of taking out a VA loan is no down payment is required. There are still closing costs to pay, but if the buyer is able to negotiate an offer where the seller pays all their closing costs, a VA buyer could potentially purchase a home without any money out of pocket.

VA doesn’t technically have a maximum loan limit, but it does limit how much a VA buyer can borrow without a down payment. For 2019, those limits mirror the FHA and conventional loan limits ($494,500 in Solano and $726,525 in Contra Costa).

As with FHA loans, VA loans also require the appraiser to scrutinize the home’s physical condition more thoroughly than on a conventional loan. And VA goes one step further -- it also requires a clear structural pest report. There’s no getting around that requirement; anything that shows up on the pest report must be corrected before escrow can close.

MORTGAGE DO’S & DON’TS

Knowing whether you’ll be using a conforming or non-conforming loan (also know as a “Jumbo”) is critical. And those conforming loan limits are much lower in Solano County than in other Bay Area counties (for 2019, it’s $494,500 vs. $726,525 in neighboring Contra Costa).

Determining whether you’ll be using a conforming loan or a jumbo loan is critical, for the interest rate, monthly payments and minimum reserve requirements can often be substantially greater on a jumbo loan.

Many borrowers are afraid to share things from their past that they fear might jeopardize loan approval. Rest assured that if there are skeletons in your financial closet, your lender will find out about them along the way. If there’s going to be a problem, it’s much better to find about it up-front than several weeks later, after you’ve spent money on inspections and the appraisal.
In order to remove your loan and appraisal contingencies on time, you’ll need to provide your lender with whatever documentation they request in a timely manner, so that the lender can give you a thumbs-up by your contingency removal deadline.
Preparing to move is always an exciting time and many buyers are tempted to start shopping for things like refrigerators, washers & dryers so they can have them delivered as soon as they get the keys. But making large purchases with a credit card or taking out a 6-month-same-as-cash credit line from a home improvement store could jeopardize your approval if the new debt pushes your debt-to-income ratio beyond what the loan guideline allows. So resist the temptation to make any major purchases until escrow closes.
The interest rate on your loan is probably locked for a certain period of time and if you’re not able to sign your papers in time for the loan to fund before the lock expires you could lose your interest rate. And if rates have risen since you locked, that could mean higher monthly payments. So when your agent or lender tells you loan documents are ready, unless you don’t need to close right away, be sure to sign your closing papers as soon as they’re available.