The process of buying a new home is a journey that begins with looking for a home and ends with the closing. And, like any journey, along the way you can expect there to be days when you’re excited and days when you’re frustrated. The purpose of this guide is to help you understand the home buying process so you will be able to navigate it as smoothly as possible. In this portion of the guide, we will be going over the following topics:
- How long does it take to finance a home?
- What is the home financing process?
- What’s the best advice for a first-time mortgage applicant?
A home financing checklist will also be provided so you can be sure you have all of the documentation you need when applying for your mortgage.
How Long Does It Take to Finance a Home?
According to the National Association of Realtors, the average homebuyer looks at ten homes over a ten-week time period before they are ready to settle on a home and start the application process. This doesn’t include the time it takes to finance the home.
The typical finance process from contract to closing takes anywhere from 30 to 45 days, not including the pre-qualification process. In some cases, the process can even take 60 days, but rarely does it take longer than that. Of course, if certain issues arise after the application is submitted, it can cause a delay in the processing.
The Contract Timeline
The usual timeline for financing a new home is as follows:
- 1 to 5 days for negotiating and submitting an offer
- 1 to 3 days for signing the sales contract
- 21 to 30 days for securing the financing
- 7 to 10 days for the home inspection to be completed
The best way to ensure the financing process goes as smooth and quickly as possible is to have all of the requested information and documents collected, and the application completely filled out before submitting it.
Once the contract is accepted, the lender may require additional documents or information. To keep the process on-track and on-time, it is crucial for the requested documents or information be provided to the lender as soon as possible.
What Is the Home Financing Process?
The home financing process is complex and can sometimes be quite lengthy. This is especially the case when the borrower doesn’t have the documentation needed at the very beginning, so knowing what is required is crucial for helping the process along without any issues.
Throughout the process, the borrower will hear terms like “escrow,” “titles,” “appraisals,” “closing,” and others. For the first-time buyer, these words can seem confusing or even intimidating, but they are simply processes that need to be met before a mortgage can be approved.
The home financing process is made up of ten steps:
- Educating Yourself on the Mortgage Process & Needs (welcome to the Homes How Tos!)
- Getting Pre-Qualified for a Mortgage
- Determining the Down-Payment
- Applying for the loan
- Locking in an Interest Rate
- Loan Processing and Property Appraisal
- Mortgage Loan Approval
- Preparing Escrow and Title Documents
- Title Transfer
Getting Pre-Qualified for a Mortgage
Obtaining a pre-qualification from the lender is one of the first things a home buyer needs to do for three key reasons. First, it will determine whether or not the borrower meets the credit requirements. Second, it lets the borrower know how much home they can afford. Third, being pre-qualified shows sellers that you are serious about buying a home. While getting pre-qualified is important, it does not guarantee a loan approval. In order to get approved, the borrower’s credit and job history need to remain at the point they were when they pre-qualified or better.
Determining the Down-Payment
The down-payment plays a large role in getting approved for a mortgage because the more money that can be paid upfront, the more comfortable the lender is going to be approving the loan. Most conventional lenders require at least 20%, but there are loans available that can be approved for less money down. Paying more than the minimum down-payment can also help a borrower afford a larger home than they are pre-qualified for.
Locking in an Interest Rate
Interest rates on home loans fluctuate on a daily basis. Locking the interest rate in is important for protecting your rate from going up between the application and the approval. A borrower can lock in their interest rate simply by paying an upfront authorization fee if the lock period is longer than 90 days. If the lock period is less than 90 days, then no upfront fee is required.
Applying for the Loan
When completing the mortgage loan application form, a borrower must provide all of the requested information, including their personal and financial information, and the property they looking to buy. During the application process, the lender will provide the borrower with a Loan Estimate (LE), which outlines the closing costs of the loan. The borrower must review and approve of the Loan Estimate before the application can be processed.
Loan Processing and Property Appraisal
Once the LE is approved by the borrower, the lender will collect the documents and information required to process the loan. Also during this phase, there will be a required appraisal of the property, which lets the lender know the property’s true value.
Mortgage Loan Approval
During this step, the lender carefully reviews the application and the applicant’s credit history. All of the financial information will be verified and the level of risk evaluated. If everything is accurate and in good standing, the lender will proceed to loan approval.
Preparing Escrow and Title Documents
Escrow is a certain amount of money that the borrower needs to provide to the Title Company to hold until all of the conditions of the loan approval are met. This process is also commonly called the “pre-closing.” The Title Company conducts a title exam during this time to ensure that the property’s title is clear. The Mortgage Note and Deed are also prepared at this time.
The closing is when the borrower signs the loan documents for the property being purchased. The down-payment is also made at this time, including all of the other related costs associated with closing, like title insurance, the cost of the title exam, appraisal fees, settlement fees, credit report fees, and the application fee.
The title transfer is the last phase of the home buying process. The contract gets verified, all of the closing funds are collected, and the purchase funds are given to the seller. Finally, the keys are then handed over to the new homeowner.
What’s the Best Advice for a First-Time Mortgage Applicant?
First-time home buyers can quickly get overwhelmed by the home buying process because there are so many moving parts, and they really have no control over most of them. This is why good, sound advice is so important for the first-time buyer. The following tips will help first-time buyers avoid many of the pitfalls suffered during the process of buying a home.
Know the Full Monthly Cost of the New Home
A first-time buyer can be led astray by some of the online real estate websites. These sites provide detailed information about the properties, but they also include the average monthly mortgage amounts for the homes. This information can be misleading because a new home buyer often uses that figure to determine whether or not the home is in their affordability range.
The problem is that the number being provided doesn’t take into consideration all of the other costs of owning the home. To have the best idea of how much the home will realistically cost, the buyer should take into account expenses such as property taxes, insurance fees, average utility expenses, maintenance costs, and anything else that might be needed to maintain the home on a monthly basis.
Research the Selling Prices in the Area of Interest
Some sellers may slash the prices on their homes if they need a lot of work. Other sellers may set their prices high if they are looking to get more out of the home than it’s actually worth. The only way a buyer can be confident that the home is priced accordingly is by researching the past selling prices for homes in the area where they are interested in buying. Buyers should especially look at the recent past sales of homes that are similar in style and size, referred to as “comps.”
Review Credit History
Although lenders will at times be more lenient or more strict in their loan qualifications, the quality of the borrower’s credit history remains a make-or-break factor. Therefore, a first-time home buyer is going to want to obtain copies of their credit reports from the three credit reporting agencies (Trans Union, Equifax, and Experian), at least three months before applying for a loan. This will give the borrower time to review the reports and dispute any incorrect information or illegitimate data with the bureaus so when it comes time to apply for the loan, their credit report is as good as it can be.
Gather All of the Required Documents Before Applying
A new home buyer needs to have all of their personal and financial documents collected, organized, and ready for the lender before they apply for their loan. Don’t wait to do this because some of these documents may be difficult to track down and missing just one document can cause a delay in the loan’s processing. The information a borrower is going to need includes but is not limited to:
- Pay stubs
- Bank account statements
- Last two tax returns
- Loan and credit line statements (if any)
- Names and addresses of all former landlords for the last two years
Get Pre-Qualified for a Mortgage Loan
Having a letter of pre-qualification from a lender is a strong negotiating tool for the first-time home buyer. It proves to sellers that the buyer is serious about purchasing a home. In addition, it helps a first-time buyer get a better idea of just how much home they can realistically afford.
Don’t Give Up
If a conventional lender denies the buyer’s loan request, they shouldn’t give up hope. There are other ways to get a mortgage. For instance, FHA loans have more relaxed qualifications than conventional loans, and they also don’t require as much money down (3.5% vs. 20%). If the borrower is active duty military or a veteran, then they can also look to a VA-approved lender for a loan. VA loans can be obtained with no money down and competitive rates in a lot of cases.
Home Financing Checklist
Having all of the required information and documents collected, organized, and ready for the lender at the time the application is submitted is essential for keeping the loan approval process moving smoothly. This cannot be stated enough. Here is a checklist that will help ensure you don’t miss a thing.
- Full legal name
- Driver’s license and/or government-issued photo ID
- Social security number (have your card available in case the lender requires a copy)
- Phone number
- Primary email address
- Residential mailing addresses over the last two years
- Primary and secondary income amounts and sources (pay stubs for the last 30 days will be required)
- Monthly debt obligations
- Values of bank, retirement, investments, and other assets (the most recent two months’ statements for each will be required)
- Name, addresses, and phone numbers of all employers over the last two years
- Information about the property being purchased, including the address, year built, purchase price, and estimated down-payment amount
- Estimates of the annual property tax, homeowners insurance, and homeowners association fees (if any) for the home being purchased
- W-2s for the last two years
- Federal tax returns for the last two years
- IRS Form 4506-T — Request for tax transcript, completed, signed and dated
- Written explanation if employed less than two years or if an employment gap exists within the last two years
Additional Income Verification for Self-Employed
- Federal tax returns (personal and business) for the last three years
- List of all business debts
- Year-to-date profit and loss statement
- Written credit explanation letter for any late payments, collections, judgments, or other derogatory items in credit history
- Judicial decree or court order for each obligation due to legal action
- Payment history for public utilities, phone, cable TV, car insurance, and other expenses (if the applicant doesn’t have a traditional credit history)
- Bankruptcy/discharge papers for any bankruptcies in credit history
- Homeowners insurance information, including agent’s name and phone number
- Purchase contract signed by all parties
Buying or refinancing a home is a big decision, so it is important for the borrower to be fully aware of the financial responsibility they will be taking on. Therefore, before making the final decision, there are several things to consider, including:
- Buying vs. Renting
- How Much Can You Afford?
- How to Calculate the Mortgage Payment You Can Afford
- What to Expect When Refinancing
Throughout this portion of the guide, you will find helpful tools that will be instrumental in providing you with the figures you’re looking for.
Buy vs. Rent
Choosing between buying a new home and continuing to rent is something that just about every homeowner has to consider at some point in their life. It can be tempting for a renter to make the jump to homeownership, but before they do, they need to be in the right position, both personally and financially. Here, we provide borrowers with expert advice on how to know when to buy versus staying in a rental.
When Does It Make Sense to Buy?
Every individual has a different personal and financial profile, so there is no simple and direct answer to this question. Some buyers are persuaded by rising interest rates or low housing prices, while others may not even want to start looking for homes until they have enough money saved for a down payment.
Ultimately, knowing when it is the right time to buy a home should be driven by the buyer’s circumstances and life goals. For instance, if a renter is getting married and wants to have children, then their apartment may be too small to support a growing family. Or, a renter may have a goal of owning their own home by the time they reach 30 years old. Whatever the case may be, there are five key factors that a renter should meet before they buy a house. These include:
- The Savings Are There: Most lenders are going to want the borrower to have anywhere from 10% to 20% of the home’s selling price saved for the down payment. FHA loans require less (3.5%), but no matter what type of mortgage the borrower is applying for, they need to prove to the lender that they can save money.
- Stable Lifestyle: If a borrower is looking to start a new career or their partner loses their job, then now is not the time to start looking at homes. Owning a home requires the buyer to have a stable lifestyle and consistent income. If a couple is expecting one of them to be laid off in the coming months, then they need to ensure that whatever mortgage they are applying for, they can afford to pay with just one income if necessary.
- More Affordable to Buy Than Rent: Rent rates in a lot of areas are just as high as mortgage payments, if not higher. Therefore, if the renter is going to have to pay more money to rent than buy, then they might want to start considering buying a home. An added benefit is when a renter becomes a homeowner, their monthly payment will be going toward equity in the home.
- Good Credit Rating: The stronger the borrower’s credit history, the lower the interest rate will be on their mortgage loan. So, this is an important factor to meet when deciding between renting and buying. Conversely, if the borrower’s credit is poor, then they should wait to apply for a mortgage, and instead focus on improving their credit.
- External Factors: There are several factors that a borrower has absolutely no control over, but these can still affect their decision. Declining or increasing interest rates is one such factor, while the state of the current housing market (buyer’s or seller’s) is another.
Tips on Savings to Prepare for Buying
As stated earlier, having enough money saved to put down on a home is important for a few reasons. It proves to the lender that the home buyer is financially responsible and capable of saving money. It also helps the buyer save money on their monthly mortgage payment because the more money that is put down, the lower the mortgage will be.
But, saving money isn’t always the easiest thing to do. Here are ten tips that can help you save the money you need for your down payment.
- Save your tax returns
- Save any bonuses or raises from work
- Set up automatic transfers from your checking to your savings account
- Refinance your student loans
- Keep your car when it’s paid off and deposit the payment into a savings account or refinance your car payment if you still owe money on it and transfer the savings to your savings account
- Any time you receive $5 as change for a purchase, put it in your savings account
- Use cash rewards credit cards and transfer the cash back into your savings account
- When your checking account is a few bucks over a round number, transfer the excess to your savings account
- See if your bank has a program that rounds your credit card purchases up to the nearest dollar and deposits the extra into your savings account
- Any time you receive “windfall” money, such as lottery winnings, birthday gifts, and others, deposit that money into your savings account
Each of these tips on their own makes for a slow but steady means of saving. But, by staying committed to your goal, you will gradually see your savings account grow.
How Long Do You Plan to Stay Where You Are?
Another factor that needs to be considered when deciding between renting and buying is how long you are expecting to remain in the area where you currently live. If you are planning on making a life-change within five years or you don’t particularly like the area in which you live, then remaining a renter may be a better idea than being restricted by a monthly mortgage obligation. On the other hand, if you love where you live and you plan on staying in the area for several years, then buying a home and putting down roots is a solid option.
Should I Rent or Buy?
If you are still unsure about whether you should rent or buy or your credit score is keeping you from getting approved for a loan, then there is another option that can be considered – leasing a home with an agreement to buy. Here’s a brief review of how this works.
How Does a Lease Option to Buy a Home Work?
The lease-to-buy option typically has fewer requirements than getting approved by a lender, and a lot of the terms are negotiated between the landlord/seller and the tenant/buyer. The down payment is also lower, with it essentially being the same thing as a security deposit.
A lease-to-buy option happens when the tenant leasing the home from the landlord states their intent to buy the property. A lease agreement is created to dictate the terms, including the rental rate and length of the lease. The tenant is also given the legal right to purchase the home on or after a certain date and at a certain price.
How Does Buying a Home Affect Taxes?
Unlike with renting, buying a home can benefit the buyer at tax time. In fact, there are five ways that buying a home can put more money in the buyer’s wallet through their tax returns.
- Mortgage Interest Deduction: The mortgage interest deduction allows a new homeowner the benefit of writing off interest on (up to) a $500,000 loan if they’re a single tax filer, or on a $1 million loan if they’re a couple filing jointly. Additionally, if they’re a couple filing jointly, they can also deduct the interest paid in home equity debt up to $100,000.
- Points Deduction: It’s not uncommon for a buyer to pay “points” on their mortgage in order to get a lower interest rate. One point is equal to 1% of the loan value and that money is tax deductible, either immediately or over time, depending on how many points are paid up front.
- Property Tax Deduction: When a home is purchased, the amount of property tax that is paid is tax deductible. So, the higher the property tax, the larger the deduction. The only requirement is that the deduction must be claimed the year the payments were made.
- PMI Deduction: Private mortgage insurance, or PMI, is usually required on home loans in which the buyer was unable to put at least 20% down. The amount paid to PMI is typically between 0.5% and 1% of the loan’s value and that money can be tax deductible if the buyer’s income qualifies them for the benefit.
- Home Office Deduction: If the buyer is self-employed or works as a freelancer out of the home, then they could be eligible for a home office deduction. The IRS allows a portion of the expenses required to conduct a business from home, like the cost of Internet service, electricity, etc. When filing their taxes, the buyer will need to figure out what percentage of living space the home office takes up.
How Much Home Can I Afford?
A home is the largest investment most people ever make. And, depending on how much the buyer can afford versus how much home they buy, their new home can either be a blessing or a curse. For this reason, it is very important for a buyer to fully understand the realities of the purchase they are about to make – and it all begins with knowing how much home you can afford.
How Much Do You Currently Pay in Rent Every Month?
If you currently rent and are able to pay your monthly rent comfortably, then the amount you are currently paying is a good starting point for determining how much home you can afford. However, there are certain costs associated with owning a home that aren’t included with a rental.
As a result, collecting all of your sources of income and your monthly expenses and debt obligations, and working out the numbers is a process that needs to be done.
Know Your Numbers
Once you have found the home you want to buy, you need to estimate the monthly home payment to make sure you can afford it. You can use a mortgage calculator to help you determine this information. A mortgage calculator will provide you with a monetary figure, but in order for it to be used as a guideline, it needs to include the following:
- Principal and Interest
- Mortgage Insurance
- Property Taxes
- Homeowners’ Insurance
- HOA or Condo Fees (if applicable)
Next, take the number the mortgage calculator provided and estimate what percentage of your income will be dedicated to paying the mortgage. The standard rule for lenders is 28%. If the mortgage payment accounts for more than 28% of your income, you will either have to find a way to increase your income or purchase a less expensive home.
Lastly, you will have to determine how much money you will have left after paying your monthly mortgage. To determine this, you add together all of your monthly income sources and subtract from that the amount of your mortgage. What is left is what you have to work with. Once you have this number, you will need to subtract each of your other fixed and variable monthly debt obligations, including:
- Car Payment and Insurance Costs
- Student Loan Payments
- Credit Card Payments
- Living Expenses (food, utilities, entertainment, clothing, etc.)
Once you go through the math, is the amount that’s left over enough for you to still be able to save? You do not want to get into a situation where you are working solely to pay your mortgage. Make sure the mortgage you are applying for is something you can comfortably afford or else you may wind up regretting your decision.
What Is My Monthly Mortgage Payment Going To Be?
You can determine your monthly mortgage payment, including taxes and insurance, by using our home loan calculator. Simply enter the price of the home you want to buy, the amount of your down payment, and the other requested details about the home loan. You will then be provided with a mortgage payment breakdown, payment schedule, and more.
How to Calculate the Mortgage Payment You Can Afford
Our home loan calculator can give you a good idea of how much of a mortgage payment you can afford. The calculator is easy to use and will require the following information:
- The area in which you are buying a home
- Your annual household income before taxes
- The amount of your down payment
- Total minimum monthly debt obligations
- Approximate credit score
- Additional information and details
Find out how much you can afford – use our mortgage payment calculator today.
Considerations When Refinancing a Home
If you currently own your home and are thinking about refinancing, there are certain considerations that need to be kept in mind, in particular, knowing how much your home is actually worth in the current market and what to expect when you get a second mortgage.
What Is My House Worth?
The housing market fluctuates almost daily, so knowing how much your home is worth at the time you want to refinance is essential for determining whether or not now is the right time to do it. For instance, if home values are trending low, your home is going to be worth less and will therefore have less equity. This will make it less profitable for the property to be refinanced. But, if home values are on an upward trend, then it is likely a good time to refinance your home.
You can find out how much your home is worth simply by using our home value estimator tool. In just minutes, you can have the information you need to make the right decision for your home.
Getting a 2nd Mortgage
A second mortgage can be taken out on a home when it has a significant amount of equity. For instance, if your home is valued at $300,000 and you have $120,000 left on your current mortgage, then you have $180,000 of equity in your home. If you wanted to take a second mortgage out, the lender may allow you to borrow as much as 80% of your equity, which in this case would be $150,000.
Second mortgages can be a good way to build wealth or they can be used to pay for substantial purchases, like a child’s college education, a luxury vacation, an in-ground swimming pool, a new car, or a major home improvement. But, in order to get the most value out of your home, you need to determine whether or not it is valued where you need it to be.
When you get a second mortgage, you need to be careful because if the market should flip, you could wind up being upside-down in your mortgage, which means you owe much more on your home than it is actually worth.
The best way to determine if taking out a second mortgage on your home is a good idea in the current housing market is by using our home value estimator tool. You can find out how much equity you have in your home and whether or not it makes good financial sense to use your equity by taking out a second mortgage.
How to Understand Your Credit History and Credit Score
Credit history and score are two of the most important consideration factors that lenders use to approve or deny their loan applications. But, this is not to say that someone with imperfect credit can’t get approved for a mortgage. In some cases, a borrower with imperfect credit may be offered a loan, but one with a higher interest rate, or the lender may require more money down, or advise the borrower to purchase a less expensive home. In this section of the guide, we will go over:
- Can I Buy a Home with Bad or No Credit?
- What Kind of Credit Score Do I Need to Buy a Home?
- How to Fix Your Credit Score to Buy a Home?
Can I Buy a Home With Bad or No Credit?
In the world of mortgage loan approvals, the higher the credit score, the better. A high credit score helps ensure that the borrower gets the lowest interest rate on their home loan while a borrower with fair credit or worse may find it especially challenging to get approved.
Here is how your credit score can affect your interest rates and approval odds.
- Exceptional Credit (760+): Having a top-tier credit score will enable you to take advantage of the best rate available at the time.
- Excellent Credit (720-759): This type of credit will only impact your interest rate slightly, usually no more than 0.25% higher than the lowest rate.
- Good Credit (680-719): Good credit will affect your interest rate a little more. Typically, borrowers with good credit are offered loans with interest rates approximately 0.5% higher than the lowest rate.
- Fair Credit (620-679): This is where the divide widens in relation to interest rate. Borrowers with moderate credit can expect to pay 1.5% higher interest than the lowest rate available.
- Poor Credit (580-619): It’s not impossible to get approved for a mortgage with poor credit, but borrowers can expect their score to cause them to pay rates anywhere from 2% to 4% higher than the lowest rate.
- Bad Credit (350-579): It’s a steep uphill climb, but some borrowers are still able to get approved with very poor credit, however, the interest rate they are going to get will be extremely high.
The ideal credit score for applying for a mortgage is 700 or above. While it is still possible to get approved with a score less than 700, the interest rate for borrowers with lower scores will start impacting the overall cost of owning a home.
If the borrower doesn’t have any established credit, the lender will require them to provide another means of creditworthiness. In most cases, the lender will want to see the borrower’s history of paying their utility bills, cable bills, phone bills, and other monthly expenses. So, while it is possible for someone to get approved for a mortgage with no established credit, it is more challenging than it will be for a person with an established credit history.
What Kind of Credit Score Do I Need to Buy a Home?
Different types of home loans have different credit requirements. For instance, for a conventional loan, the minimum FICO score for approval is 620. FHA loans are a little more lenient, but they also have limitations. The lowest credit score a borrower can have and still get approved for an FHA loan is 580. VA and USDA loans don’t have set minimums, but rarely are mortgages approved for applicants with credit scores lower than 580 in either case.
The average credit score for buying a house is 600 or above, so this means even an applicant with bad credit can get financed.
If you have imperfect credit, but you want to buy a home, all is not lost. Get copies of your credit reports and review them for inaccuracies. Simply disputing an incorrect piece of information can help raise your number once the negative information is removed. Once you have your score as high as it can go, get prequalified by your lender. This will tell you how much home you can afford, and it will also show sellers that you’re serious about buying.
Keep in mind that when you get prequalified, it is not necessarily a loan guarantee. Your credit score and history must remain the same or improve between the prequalification and the loan approval. Do not apply for new lines of credit or allow any of your accounts to go delinquent, or the prequalification will mean nothing.
How to Fix Your Credit Score to Buy a Home
When a lender reviews your credit, they are looking for certain factors, but some factors are more important than others. Knowing what lenders are looking for will help you to concentrate on the most important parts of your credit profile. Here’s a breakdown of what lenders look to most when deciding on a loan approval.
- Payment History (35%)
- Credit Utilization (30%)
- Age of Credit (15%)
- Different Type of Credit (10%)
- Number of Credit Inquiries (10%)
Because payment history is so important to lenders, you need to ensure that you do not miss any payments on your debt obligations. One way you can do this is by setting payment reminders for yourself through your bank. Or, you can arrange for your bills to be paid automatically from your bank account. If you choose this direction, schedule your payments to be made a few days before the due date to ensure the payment gets made on time and without error.
Another way to improve your credit is to reduce the amount of debt you owe. To accomplish this, you should stop using your credit cards. Next, you should review the interest rates for all of your credit cards and create a budget that allows you to pay more on the card with the highest rate. Once that card is paid off, start applying the extra money to the next card with the highest interest rate. By tackling your debt this way, you’ll save money and improve your credit steadily over time.
If you have missed payments in the past, then concentrate on getting your accounts current and keeping them current. The impact of those missed payments will soften the older they get.
Additional credit improving tips include:
- Keep the balances on revolving credit accounts as low as possible
- Pay off debt instead of moving it from card to card
- Do not apply for new credit cards if you do not need them just to increase your available credit
- Do not close paid or unused credit card accounts, because the older the accounts are, the higher they will make your credit score
Ruining one’s credit can happen overnight, but fixing it takes time. If your credit score is keeping you from getting approved for a mortgage, then focus your energy on improving it. Eventually, you will get where you need to be.
Not all mortgages are the same. There are numerous factors that can impact everything from one’s monthly payment amount to their interest rate. In this section, we will provide you with the most common components you will have to consider when applying for a mortgage, including:
- Type of Rate / Rate Features
- Down Payment
- Points and Interest Rates
Type of Rate / Rate Features
Most borrowers will have to choose between two different types of rates for their mortgages – a fixed rate or an adjustable rate mortgage (ARM). There are advantages and disadvantages to both, so knowing what to expect is important for being able to confidently choose a mortgage rate.
Fixed Rate Mortgages
A fixed rate mortgage is one in which the interest rate remains the same throughout the life of the loan. This is the most popular type of rate among American homeowners because most families prefer having the same mortgage payment month after month. A fixed rate mortgage enables the buyer to easily incorporate their monthly payment into their budget because it doesn’t change. Its simplicity is also why this type of rate is especially a favored choice among first-time homebuyers.
However, as popular as fixed rate mortgages are, they are not perfect. The disadvantages of this type of rate need to be considered before making the final decision. For instance, fixed rate mortgages are almost always sold by lenders on the secondary market. This means that this type of mortgage cannot be customized to the borrower like an ARM can. They can also prove to be more expensive for some borrowers because fixed rate mortgages lack the benefit of early-on payments and rate breaks.
Another thing to consider is that should the national interest rate sharply decline, a fixed rate mortgage would need to be completely refinanced in order to take advantage of the lower rate. This process will typically cost thousands of dollars in closing costs and a lot of time spent going through the process of refinancing the home.
Adjustable Rate Mortgages
An adjustable rate mortgage is one in which the interest rate on the loan changes when it goes through an adjustment period. This type of rate is popular among those who do not intend to remain in the home for longer than a few years, as well as investors and “flippers.” Over the course of an adjustable rate mortgage, the loan will have an initial rate and period followed by an adjustment rate and period. Here’s an example:
If a lender offers a borrower a 5/1 LIBOR ARM at 3.25% with 2/2/5 caps, the rate on the loan will remain at 3.25% for the first five years. After the first five years, an adjustment can be made on the rate once a year. The 2/2/5 caps include the following:
- 2% is the maximum percent change allowed for the first adjustment (up or down)
- 2% is the maximum adjustment allowed each time the rate adjusts (up or down)
- 5% is the maximum adjustment allowed overall, meaning the highest interest allowed on this loan would be 8.25%
Most adjustable rate mortgages are initiated with lower interest rates than the average fixed rate mortgages. Because of the lower initial interest, an ARM makes it possible for a borrower to afford a larger home. There’s always the chance that the national interest rate could decline over the life of the loan, thus enabling the buyer to take advantage of the lower rate without having to refinance.
Of course, the other side of the coin is that should interest rates climb quickly, that 3.25% rate could become 8.25% just five years into the loan. ARMs are also much more complex than fixed rate mortgages with all of the customization, caps, adjustment indexes, and other features available. This means an inexperienced first time buyer could be easily confused by their loan, or worse, could be taken advantage of by a less-than-honest mortgage company.
Before selecting either type of mortgage, it is important to check for certain risky loan features, like balloon payments and prepayment penalties.
How to Know What Risky Loan Features to Look For?
A mortgage that’s known as a balloon loan is one in which the borrower pays just the interest on the loan for the first few years. While this may be attractive to buyers because the initial payments are so much lower, the reality is that the lender will want the entire principal of the loan to be paid in one lump sum, usually within three to seven years after the loan was originated. This means the borrower will have to pay the entire loan off at that time, hence the term “balloon payment.”
Most lenders allow their borrowers to pay off as much as 20% of their mortgage each year. But, some borrowers pay off more than 20% of their mortgage in one year, such as in cases where the home is sold or refinanced, and in these cases it is known as a “prepayment.” Some lenders have language in their agreements that allow them to penalize the borrower should they sell, refinance, or pay more than 20% of their loan in one year. Prepayment penalties are typically listed in the agreement as either “soft” or “hard” penalties. A soft penalty permits the borrower to sell their home at any time, but the borrower will be penalized should they refinance. A hard penalty will penalize the borrower if they sell OR refinance their home. The amount of the prepayment penalty is usually 80% of six months’ interest on the loan. So, if a homeowner has a $500,000 loan with an interest rate of 6.5% and a monthly payment of $2,708.33, their prepayment penalty will be 80% of six months’ of payments ($16,249.99), which equals approximately $13,000.
How to Understand Mortgage Down Payments
The amount of money that is paid upfront on a mortgage is called the down payment. This amount of money impacts everything from a borrower’s loan approval chances to how much home they can afford to how much their monthly mortgage payment will be. Therefore, more is always better when it comes to the down payment. This portion of the guide will provide you with everything you need to know about the down payment.
What Is the Average Down Payment?
The size of a down payment varies, but lenders typically require at least 20% of the selling price to be put down on the home in order for the borrower to get the best interest rate on their loan. By putting at least 20% down, the borrower will also be able to avoid having Private Mortgage Insurance (PMI) on their loan.
Private Mortgage Insurance is required on any conventional loan in which the borrower puts between 5% and 19% down on their home. This insurance protects the lender in the event the buyer stops making their loan payments.
If a borrower is unable to put at least 5% down on their home, then there are other options they can still pursue. An FHA loan is one of the most popular options in these cases because this type of home loan only requires the borrower to put 3.5% down. There are also some loans in which the borrower can obtain a mortgage with no money down.
No Down Payment Loans (VA and USDA)
If the borrower is active-duty or a veteran of the U.S. Armed Forces, then they may be able to qualify for a home loan with no money down by getting a VA loan. VA loans also don’t require the homebuyer to pay monthly Private Mortgage Insurance. Additional benefits of VA loans include:
- No prepayment penalties
- The seller can pay all of the buyer’s loan-related closing costs and up to 4% in concessions
- Lower interest rates than conventional and FHA loans (3.625% VA 30-year fixed vs. 3.875% conventional 30-year fixed)
- VA mortgages are assumable
- Foreclosure avoidance advocacy
To be eligible for a VA loan, the applicant needs to meet the requirements set by the Department of Veterans Affairs. However, because the VA does not originate the loan, the borrower will still have to meet the requirements of the lender they use to obtain financing. The VA’s eligibility requirements include:
- Borrower must be active duty or a veteran who has available Certificate of Eligibility (COE)
- Loan must be used for an eligible purpose
- Borrower must have satisfactory credit (usually 620 or above)
- Debt-to-Income ratio of 41% or lower
- Borrower must intend on living in the home for a reasonable period of time after closing
- The income of the veteran and spouse must be sufficient and stable to meet the mortgage payments, as well as the cost of living and debt obligations
What Do You Qualify For?
Finding out how much of a VA loan you can qualify is easy. Just use our mortgage payment calculator. Then, to get started on your application, contact your local Veterans United Loan Specialist.
USDA loans are similar to VA loans in that they are zero-down loans, but they are designed specifically for the buyer who is buying an eligible rural or suburban home. USDA loans are issued through the United States Department of Agriculture loan program, also known as the USDA Rural Development Guaranteed Housing Loan Program. As similar as USDA loans are to VA loans, the former still requires the borrower to pay mortgage insurance if they don’t put any money down.
There are three different types of USDA loans available – guaranteed loans, direct loans, and home improvement loans and grants.
- Guaranteed Loans: This type of USDA loan is guaranteed by the USDA but not issued by it. A guaranteed loan needs to be obtained through a lender who participates in the program.
- Direct Loans: This type of loan is issued by the USDA. They are typically reserved for low- and very low-income applicants. With subsidies, interest rates for USDA loans can be as low as 1%.
- Home Improvement Loans and Grants: Home improvement loans or grant awards are ideal for homeowners who want to repair or upgrade their homes. The USDA program also offers packages can combine a loan and a grant, providing up to $27,500 in assistance.
Prepayment Options to Reduce Down Payment
If a borrower is unable to put at least 20% down on their home, they can still save money by prepaying their mortgage. Prepayment is essentially paying more every month than the minimum payment. By making larger payments, the loan gets paid off quicker, and as a result, the homeowner will potentially save thousands of dollars in interest. The homeowner will also build equity in their home faster by prepaying than just paying the monthly minimum.
Of course, before a homeowner starts prepaying their mortgage, they need to read their contract agreement carefully. Some lenders charge a prepayment penalty if more than 20% of the amount of the loan is paid back in one year’s time.
Do You Have Accessible Cash for a Down Payment?
Lenders always look to see where the money being put down on a home came from. With conventional mortgages, all of the money being put down needs to come from accessible cash via the borrower’s checking or savings accounts. FHA loans are more lenient in that they allow the borrower to use “gift” money for their down payments. An example of this would be if the borrower’s parents gave them the money. Or, if the homebuyer is eligible, they may be able to get a mortgage with no money down through the VA or USDA.
If the borrower is going to use a conventional mortgage, then they will be required to put at least 20% of the selling price down. So, how much money will be needed will be determined by how much the home is being purchased for. For instance, if the home is being sold for $250,000, then the minimum down payment for this type of loan is going to be $50,000. Or, if the borrower is going to go with an FHA loan, then the minimum they would have to come up for the same home would be $8,750.
Before a borrower can truly determine if they can afford the home they’re interested in, they need to take into account the average utility costs for a home of that size. They also need to add in any HOA costs or condo fees. A home that looks easily affordable can quickly become overwhelming if these expenses and all of the borrower’s other monthly debt obligations aren’t figured into the equation.
It is also important to note that the down payment isn’t the only money a buyer needs at the closing. There are other upfront costs the buyer will also need to take care of, including:
- Home Inspection ($300-$500)
- Survey Costs
- Property Taxes
- Closing Costs (2% to 5% of the purchase price)
- Cash Reserves (2 to 6 months’ of mortgage payments)
Points and Interest Rates
Points are fees that a buyer can pay directly to the lender at the closing in exchange for a lower interest rate on their loan. This is a popular way for a homebuyer to reduce their monthly mortgage payment. One point costs 1% of the loan amount and the money essentially goes toward prepaying some of the interest on the loan.
While points are usually paid by the buyer, in some cases, a buyer may negotiate for the seller to pay points in order for the sale to go through. This money is typically used to cover some or all of the closing costs.
When Does It Make Sense to Pay Points?
It is most beneficial to pay points in cases where the buyer is purchasing a long-term mortgage. By paying points, the buyer can reduce their loan payments and actually save money over the life of the loan. Here are two examples:
- A homebuyer takes out a $200,000 mortgage. If the buyer pays one point ($2,000), they will get an interest rate that’s lower by 0.25% and a monthly payment that is approximately $30 less per month. Over the life of the loan, they will save $10,616.40 versus paying no points.
- Using the same mortgage, if the buyer pays two points ($4,000), they will have an interest rate that’s 0.5% lower and a monthly payment that’s nearly $59 less. Over the life of the loan, the savings will be more than $21,000.
Another situation where paying points can be beneficial is when the buyer can comfortably afford their mortgage payment as it is. In this case, the buyer can negotiate the seller to pay points so their closing costs can be reduced.
Understanding Interest Rate Tables
For many homebuyers, the mortgage interest rate table is a confusing mix of numbers. But, it’s easy to understand if you know how to read it. The typical interest rate table is comprised of one column featuring the interest rates, and two other columns – one for 15-year terms and another for 30-year terms. Each of these feature two columns of their own – monthly payment factor and total amount.
To determine how the interest rate impacts the amount that is paid on a loan, find the interest rate and the monthly payment factor on its same line for the type of mortgage you’re interested in. Take the monthly payment factor and multiply it by 100. Take that figure and multiply it by 12. Then, take that number and multiply it by either 15 or 30 depending on the term of the loan. The answer is what you can expect your payment to be with that interest rate.
Interest Rate Tables
Even though owning a home is an individual’s or couple’s sole responsibility, it takes a team effort to get them from the shopper stage to the homeowner stage. Building a team of capable, trustworthy, and experienced professionals make the entire process move along much smoother. Two of the more important members of any home buying team should be:
- Mortgage Lender / Broker
- Real Estate Agent
Finding the Right Mortgage Lender / Broker
The first decision a borrower needs to decide is whether they need a mortgage lender or a broker. A broker is a professional in the real estate industry who serves as a liaison between the buyer and the lender. This person is responsible for doing all of the work in finding the best lender for the buyer’s needs.
However, as helpful as a good broker can be, a buyer needs to practice caution if they want to use one. There are some brokers out there that don’t work in the best interest of the buyer, but rather, they connect the buyer with the lender that promises the broker the highest profit.
Therefore, before selecting a broker or a lender, the buyer needs to do their due diligence before making a final selection for their team. Here are some tips to help you partner with the right lender or broker for your unique home buying needs.
- Research: Before you start talking seriously with lenders or brokers, you need to do a thorough amount of research. Make sure the people or firms you are considering are reputable and licensed in the state where you are buying a home. They should also have no problem providing you with a list of prior clients that you can get into contact with. You can also ask for referrals from people you trust who have recently purchased new homes.
- 3 Offers: Once you have an idea of what type of loan you want to apply for, get at least three offers from three different lenders. This will help ensure the lender you use offers the type of loan you want, as well as determine if any of them are charging extraordinarily high or unreasonable fees.
- Compare Costs: There are dozens of fees associated with buying a home, from the home inspection to survey costs. The interest rate can vary between lenders as well. Compare all of the costs presented in your quotes. Is one lender charging a lot more in fees or quoting you a higher interest rate than the others? If so, remove that lender from consideration.
Choosing a Real Estate Agent
A home buyer needs to connect with their real estate agent on a personal level. They need to like them and trust that they are working hard on their behalf. A good real estate agent can be an incredibly valuable source of information and advice when a buyer is looking to make a home purchase. They can provide the buyer with plenty of answers related to the area of interest, including:
- The average housing costs in the area
- The cost of living in the area
- Quality of the schools
- Conveniences, such as stores, pharmacies, libraries, etc.
- Location of police, fire, and medical services
- Best places to eat or visit
- And more
Like choosing a lender or a broker, there are a few things a buyer is going to want to consider before making this important decision. For instance, a buyer should verify the agent’s licensure and speak with the agent’s most recent clients. The buyer should take a look at the agent’s current listings and ask about their credentials. It is always a good idea to use an experienced agent, but that shouldn’t stop a buyer from using a new agent. New agents are hungry for a sale and will often go further out of their way to satisfy their clients. Another important question the buyer should ask is whether or not the agent has experience selling the type of home they’re interested in buying.
Once the buyer is satisfied that the team that’s being assembled is the right one for their needs, the process of buying a new home becomes easier and all the more enjoyable.
What does a pre-approval mean?
Getting pre-approved allows you to confidently understand what you can actually afford. It does not lock you into a specific lender and you should review offers from both your pre-approval lender and competing lenders before you actually lock in your loan.
Essentially pre-approval provides the buyer (you) with a guaranteed (providing situations and circumstances do not change) loan amount, a monetary figure of how much home you can realistically afford to purchase, therefore, you’ll be able to save time by not visiting homes that are beyond your reach financially, and have a better idea of your home buying budget and mortgage costs associated with the purchase.
Being pre-approved for a mortgage by a lender is an important part of any home-buying journey because it provides you with a strong negotiating tool. A pre-approval letter shows the seller that you are serious about buying a home. Often, simply having this letter can help project you to the head of the negotiating line.
Does Being Pre-Approved for a Loan Commit You to Using That Lender?
Even though you might be pre-approved for a loan through one lender, it does not mean that you are locked into using that lender. In fact, you should seek at least three different offers from three different lenders using the pre-approval letter from one to see if one of the others can provide a better loan offer.
Getting Pre-Approved by a Lender
If you are thinking about buying a home, then you should start getting ready for the pre-approval process as early as you can – at least six months before you apply. The earlier you start, the more time you will have to improve your credit if need be, and to collect all of your financial documents and any other information you may need.
If you don’t already have one, create a budget so you can get familiar with managing your money as efficiently as possible.
Only apply for a pre-approval with a lender that requires full documentation. This will permit the lender to accurately review your application. The documentation will be needed for the actual loan application anyway, so by providing it to the lender with the pre-approval, you’ll be that much further ahead. Plus, you don’t want to get pre-approved by a lender who doesn’t require documentation because it could very well be a false approval. When applying for a pre-approval, always be sure to disclose everything.
The lender will review your credit reports, your income, and employment history and verify all of the documentation you provided. Once approved, your lender will provide you with a list of the loan programs you qualify for, as well as the maximum loan amount you’re qualified to borrow and the loan’s interest rate.
Applying for a pre-approval is essentially a scaled-down version of what you can expect to go through when you apply for the actual mortgage loan. Therefore, it pays to prepare for the process and to manage it the same way.
Reminder – If you get pre-approved for a loan, it is critical that nothing changes with your credit, income, and employment status between the time of the pre-approval and the closing. The lender is pre-approving you based on your existing circumstances and information. Should something change, you may not get the final loan approval you’re looking for.
Read: Mortgage Pre-Approval
It is essential for a new homebuyer to be fully satisfied with the mortgage they choose. This is because their loan payment will be a significant part of their lives and their finances for the next 15 or 30 years, or at least as long as they choose to remain in the home. Unfortunately, many first-time homebuyers are so excited to be buying their first homes that they get caught up in the process and lose sight of what is important – making sure that the mortgage they have agreed to is right for them.
In this section, we provide everything you need to know when it comes to choosing the right mortgage, including:
- How to Be Sure You are Comfortable With the Mortgage You Choose
- What Is Rate Lock and How Does It Impact Your Mortgage?
- How to Avoid Common Mortgage Pitfalls and Handle Potential Problems
- Making Known Your Intent to Proceed With the Loan
How to Be Sure You Are Comfortable With the Mortgage You Choose
When it comes to choosing a mortgage, there are a number of different questions a buyer needs to ask themselves before they sign on the dotted line. These questions include:
Can I Afford to Repay the Loan?
If you are planning on living in your new home for the extent of the mortgage, you need to seriously consider your current and future finances. Is your job stable enough that you don’t have to worry about losing it at any time during your mortgage’s repayment period? Can you afford to pay the mortgage with one income in the event your partner becomes unemployed? If you are confident in your ability to repay the loan, then you are starting off in a good position.
Am I Comfortable With the Monthly Mortgage Payment?
You need to be able to comfortably manage your monthly mortgage payment. You don’t want to be in a position where the payment puts a lot of pressure on your finances because all it would take is for one thing to happen for your budget to get thrown off course. Just because the bank tells you that you can afford a certain amount doesn’t mean you actually can. Take into consideration all of your expenses and subtract them from your total household income. If the mortgage payment is less than 28% of your income, then you should be able to make that payment comfortably each month.
Am I Confident With the Lender’s Decision?
You have to be confident in the lender you choose. You have to trust that they are working to get you the best rate and terms on your loan. This is why researching lenders before you apply for your loan is so important. If you are hesitant about the lender’s financing decision, then you may want to take a step back and find another lender.
Are There Any Risky Features in My Loan?
Some lenders include language in the mortgage agreement that might not be beneficial to the borrower. Before agreeing to a mortgage offer, make sure it doesn’t include any risky features like prepayment penalties or balloon payments.
Will the Loan’s Principal and Interest Change in the Future?
Most home buyers want the security and peace of mind that comes with having the same payment amount every single month. This is what is known as a fixed-rate loan and this type of mortgage allows the buyer to factor their payment into their budgets because it doesn’t change. But some mortgages, like adjustable rate loans, feature payments that can fluctuate. With these mortgages, the principle remains the same but the interest rate changes. The interest rate can increase or decrease, depending on where the national interest rate is.
When the answers to the above questions are favorable to you, your partner, and the lender, then you can confidently say that the mortgage you have chosen is the right one for you.
What Is Rate Lock and How Does It Impact Your Mortgage?
When you apply for a mortgage, the lender will discuss your loan application’s “rate lock.” A rate lock is essentially a guarantee from the lender that your loan will have a set interest rate for a certain price for a certain period of time. That length of time is typically 30, 60, or 90 days, but the terms could be set lower or higher.
Once a lender locks the rate on your loan, you are guaranteed to have that interest rate as long as you close on the home within the determined length of time. In the event that you are unable to close within the set time period, the rate on your loan will revert to whatever the rate is at the time of your closing.
Pros and Cons of Locking in Your Rate
The benefit of having a locked rate is that you are guaranteed to pay the rate even if interest rates go up. The disadvantage is that should the interest rate drop after you have your rate locked, you won’t be able to get the lower rate on your loan. But, there are some exceptions that may allow you to still get the lower rate.
One such exemption is if your rate lock agreement includes a “float down” provision. This provision permits the loan’s interest rate to be reduced if the rates drop during the locked-in period. The downside to having this provision included, however, is that it can be costly. Another exemption is to have your rate lock agreement re-written so the new, lower rate is included. But, it is also expensive to have this done as well and should the rate stay the same, you could be spending a lot of extra money for no reward.
How to Avoid Common Mortgage Pitfalls and Handle Potential Problems
Buying a home is an exciting time in one’s life, but it is not without its share of risks. To ensure that everything goes as planned, you need to be aware of certain potential problems and pitfalls that could wind up hurting you in the end.
Here is a list of common issues you are going to want to avoid when buying a new home.
Avoid Signing Partially Filled Out or Blank Documents
Never sign any blank document or any document that isn’t properly filled out with the agreed upon terms. Once your signature is on the page, the lender can fill in any blanks with whatever information they want. Make sure this doesn’t happen – only sign completed documents.
Avoid Buying More Home Than You Can Afford
If the lender tells you that you can qualify for a $300,000 loan, it does not mean that you can afford a $300,000 loan. You need to review your income and expenses to find out what you can comfortably afford before you think about applying for the highest loan possible, or else you may find yourself in financial trouble in the near future.
Don’t Think About Refinancing; Focus on Getting the Best Loan Now
One way home buyers convince themselves to buy a home at a higher rate is that they think they can simply refinance it at a lower rate in the future. This is a mistake. Instead of thinking about refinancing when you’re buying a home, focus on getting the best loan you can, right now. Refinancing isn’t cheap and there is no guarantee the interest rates will go down.
Don’t Try to Enhance Your Application With False Information
Some applicants think they can improve their loan approval odds by enhancing their applications with information that proves to be false. An example of this is claiming to make more money than you actually do. Another example is attempting to hide information that might be considered negative. Completing your application with false information is risky because it could make you guilty of mortgage fraud. Therefore, complete the application truthfully and you’ll avoid a potential legal situation.
Additional Potential Problems You May Run Into
Not all mortgage problems are the fault of the borrower. In fact, there are several reasons why a lender might prove problematic for the home buyer. Such examples include:
- Predatory Practices
- Illegitimate programs offered by the lender
Should you come across a lender who exhibits any of the above, then you should file a complaint against that mortgage company. You can file complaints with each of the following:
- The Better Business Bureau
- Your State Regulatory Board
- Your State’s Attorney General Office
- The U.S. Department of Housing and Urban Development (HUD)
- The Federal Reserve (if the lender is a bank)
- The Federal Bureau of Investigations (FBI) (if the lender is committing fraud)
Making Known Your Intent to Proceed With the Loan
Before your mortgage lender will more forward with the loan approval process, you first have to inform the lender of your “intent to proceed with the loan.” This is done by signing and submitting a Notice of Intent to Proceed with Loan Application (NIPLA) document. By signing this document, you are accepting the terms and fees listed in the Good Faith Estimate (GFE) and permitting the lender to proceed with the approval process and charge you the fees related to your loan processing.
Almost at the finish line!
Closing is one of the most anticipated parts of the home buying process because this is when the purchase is finalized and the keys are handed over. But, this process isn’t without its share of potential stress. There are far too many stories of home buyers who left the closing without the home they worked so hard to purchase.
In this final section, we will review the mortgage closing process so you, the buyer, will know what to expect. Topics will include:
- The Closing Process
- The Revised Loan Estimate – What Happened?
- Closing Disclosure – Verifying Everything Is Correct
The Closing Process
The closing is what the entire home buying process leads up to. This is a sit-down meeting during which all parties sign the papers, officially completing the deal, with the ownership of the property being transferred to you.
But, before the closing can begin, an inspection of the home should be made to determine whether the home is suitable for occupying and if there are any major home improvements that need to be made. A home appraisal is also performed to ensure that the home you are buying is priced accordingly against the actual value of the property.
The Home Inspection and Appraisal
It is important that you have completed the home inspection, conducted by a professional home inspector, prior to the closing. The reason for this is because there may be issues that the seller isn’t informing you about, such as a leaky roof, an HVAC system that needs replacing, plumbing problems, or a cracked foundation.
Although it is not always required to have the home inspected, should you not have it done, you will be personally responsible for any major repairs needed after you take ownership. By having the home inspected, you can use the inspector’s report to negotiate with the seller. For instance, if the report recommends a costly repair, you can negotiate for the seller to pay to have the repairs made prior to closing. Or, you can request a lower price for the home, or that the seller should pay your closing costs.
The appraisal is another important piece of information you will need to have before closing. Usually, it is the lender who has the appraisal performed by a professional home appraiser. The appraisal is an unbiased estimate of the true value, or fair market value, of the home you’re purchasing. The lender uses the appraisal to ensure you, the borrower, are requesting a loan amount that is appropriate.
Who Is Present at the Closing?
Every state has its own requirements for who needs to be present at a home closing, but in general, the people who are usually there include:
- You (the mortgagor)
- Your real estate agent
- The home seller
- The seller’s real estate agent
- The lender (the mortgagee)
- The Title Company’s representative
- An attorney (if you want one to represent you)
- The closing agent
How the Closing Process Works
For the buyer, the home closing process actually starts the day before the closing. On this day, you should collect and organize all of the paperwork you have received over the course of the home buying process. Some of the important documents you’re going to want to gather together include:
- The Loan Estimate
- The Contract
- Proof of Title Search
- Proof of Homeowners Insurance
- Flood Certification (if required)
- Proof of Mortgage Insurance (if required on the loan)
- The Home Appraisal Report
- The Home Inspection Report
- The Closing Disclosure
You also have the right to walk through the home 24-hours before the closing. This is so you can verify that the previous owner has left the premises, removed all of their belongings, and left the home in the condition that was specified in the contract.
If new problems are discovered during the walkthrough, you can request the closing to be delayed or you can request the seller to put a certain amount of money into an escrow account for covering the costs of the necessary repairs.
The last phase of the closing process occurs when the seller hands you the keys to your new home. Closing day is over and you’re free to move into the home.
The Revised Loan Estimate – What Happened?
Generally, once you receive your loan estimate from your lender, the lender is bound by the fees and charges included. A lender is not allowed to make revisions in the event they make mistakes, miscalculations, or underestimate the charges. But, there are some instances in which a loan estimate may be revised.
According to the TILA-RESPA Integrated Disclosure (TRID) rule, there are six events that justify a revision of the loan estimate. These events include:
- Interest rate locks – If the interest rate is not locked when the Loan Estimate is issued, then the lender can revise the estimate once the rate is locked.
- Changes in the buyer’s eligibility for the loan or changes that affect the value of the property being purchased – A buyer can experience certain changes that can affect their eligibility, such as a credit rating drop, becoming unemployed, a divorce, etc. A revision is also usually required if the lender is unable to verify the buyer’s income. If the appraisal for the property comes in higher or lower than expected, that too could result in a revised Loan Agreement being required.
- Buyer-requested changes – If the buyer requests certain changes that impact the credit terms or the settlement costs, the lender may want to revise the original Loan Estimate.
- Changes that cause an increase in settlement charges – If a change causes the settlement charges to increase beyond the tolerance variations set out in the TRID rule, the lender is granted the right to revise the loan estimate.
- The original loan estimate expires – If the buyer does not provide the lender with a Notice of Intent to Proceed with Loan Application (NIPLA) within ten business days of receiving the Loan Estimate, then the Estimate can be revised by the lender if necessary.
- Construction loan settlement is delayed – In new construction, settlement typically occurs within 60 days of receipt of the Loan Estimate. If settlement doesn’t take place within the 60 days, the lender can revise the estimate.
If you receive a revised Loan Agreement and it has nothing to do with a request made by you, then you should ask your lender to explain the reason for the revision. Find out how the revised estimate is going to affect your loan transaction, including your loan amount, the interest rate, your monthly payment, and closing costs. The more you know before you go to closing, the better off you will be.
Closing Disclosure – Verifying Everything is Correct
There are a lot of documents included in buying a home. This means there are ample opportunities for mistakes to be made. You can’t proceed through the closing expecting everything to be 100% right on all of the documents. Before you sign, you or your attorney must verify that everything is correct on your Closing Disclosure.
Some of the most important things you are going to want to verify for accuracy on your Closing Disclosure include:
- The Loan Terms – The Loan Terms include details such as the length of time the loan will last if you make just the minimum monthly payment. This is usually 15 or 30 years depending on what type of loan you choose. This part of the Disclosure also details the loan’s interest rate, your monthly payment amount, and any prepayment penalties or balloon payments.
- Closing Costs – The Closing Costs are all of the fees related to the purchase of your home. These fees include everything from the application fee to the underwriting fee and the amount can be anywhere from 2% to 5% of the selling price of the home.
- Total Loan Cost – The Total Loan Cost is what you will actually pay for your home over the life of your mortgage loan. This total is significantly higher than the purchase price because it includes the interest that you will pay on your loan.
- Prepaids – Prepaids are costs associated with your home that need to be paid in advance when you are getting a loan. Prepaids include costs such as your property taxes, homeowners insurance, and mortgage interest that will accrue between the closing date and the end of the month. So, the earlier in the month you buy your home, the more you will have to pay in Prepaids.
- Escrow – Escrow is a complex financial arrangement in which a third party account holds and regulates the payment of the funds required for the buyer and seller during the closing process. The funds are overseen by an Escrow Company; they protect the funds from chargebacks, fraud, and illegal usage in a secure non-interest bearing trust account.
- Summaries of Transactions – The Summary of Transactions is a table included on page 3 of the Closing Disclosure that shows a line-by-line comparison of the buyer’s and seller’s transaction details.
- Loan Disclosure – The Loan Disclosure is a document in which the lender provides completely transparent information about all of the terms included in the loan they are offering the buyer.
- Finance Charge – The Finance Charge is the total amount of interest and loan charges the buyer will pay over the life of their mortgage loan, assuming that the buyer will keep the loan through the full term until the last payment is paid. Finance Charge also includes any and all pre-paid loan charges.
- APR – The APR is the loan’s annual percentage rate. This is essentially the amount of interest the buyer will pay annually on their mortgage, averaged over the full term of the loan. The difference between interest rate and APR is that the interest rate pertains to the current cost of borrowing while the APR uses the interest rate as a starting point and takes into account the lender fees required to finance the loan.
How to Calculate Cash to Close
To calculate the Cash to Close amount that you will need to have on Closing Day, you can do the following equation:
- Step 1: Take the total closing costs and subtract any closing costs that are being rolled into the loan amount.
- Step 2: Take that number and add the down payment amount.
- Step 3: Take that number and subtract the deposit amount that you made when the offer was accepted.
- Step 4: Take that number and subtract any seller credits.
- Step 5: Take that number and add or subtract and adjustments, overpayment refunds, and any other credits and the number you are left with will be your Cash to Close amount.
You should now be ready for your Closing Day. Remember, carefully review all of your documents so the mortgage you get is the one you wanted.
Congratulations on financing and buying your home!