Although interest rates have rebounded, banks are still experiencing post-traumatic stress disorder (PTSD) from the foreclosure crisis. They are painfully aware that loose lending kicked off the nasty economic domino effect that ended in millions of foreclosures and billions of real estate dollars lost. As a result of this mortgage PTSD, banks have raised the bar on what it takes to get a loan. They know the riskiest borrowers, the ones who walked away from their homes when values plummeted, are typically the ones who weren’t as invested in homeownership and didn’t put a down payment on that Austin, TX real estate.
Fortunately, the reverse is also true: The more you can prove that you pose a low risk of defaulting on your mortgage, the more likely you are to qualify for a (great) loan. Even if you already have a good enough credit score, boosting it by even a few points to the magical prime loan qualifying range of 700 to 740 can get you a lower interest rate — and save you thousands. Here are five additional tips that will help you improve your candidacy for a home loan.
1. Conduct an audit
Many prospective borrowers who know they have good credit just call the mortgage broker, submit the loan application, get their rate quote, and start house hunting or get the refinance underway. But if your score is 690, a quick audit resulting in even a single correction or deletion of a derogatory item can add 10 points to your credit score, saving you as much as a quarter-point on your interest rate! Order your annual complimentary report and check for accounts that don’t belong to you, or derogatory items that should have already “aged” off your report.
If you’re in a rush, ask your mortgage broker to submit a “rapid rescore” request to the credit bureaus. Yvonne Hemmingsen, a licensed mortgage broker in Pleasanton, CA, says that with a letter or documentation from the creditor, a consumer can get the bureaus to correct errors, but it takes two reporting cycles — as long as two months. “With a bureau direct rescore submitted by a mortgage broker, on the other hand, the derogatory information should be deleted in less than a week,” Hemmingsen says.
2. Pay down a few bills
Depending on how much debt you have and how you reduce it, paying down some credit card balances may boost your credit score. Additionally, reducing your debt will decrease your debt-to-income ratio and allow you to qualify for a larger mortgage. Paying off debt takes some strategy, though: Involve your mortgage professional in the conversation. They can tell you which bills, reduced by how much, will have the biggest impact on your score — and how long it will take for you to see a difference.
3. Spread your debt around
A high credit score isn’t just a sign that you’re good with money — in that case, debt-free people would have sky-high credit scores. But that’s not how the scores work. Credit scores document that you have a habit of being smart and active with your use of credit. In fact, the score-setting algorithms target an ideal credit utilization ratio of 30%. This means maintaining a balance of 30% of your credit limit or less on any given card, and 30% usage of your overall available credit.
If you’re an airline-miles junkie who uses one credit card to death and the others not at all, spread your debt around to all of your cards, targeting a 30% balance on as many cards as possible. This not only activates cards that are subject to being closed from nonuse (which can reduce your score by reducing your available credit), but also it prevents any single card from looking like it’s maxed out.
4. Get a gift
Banks typically require a down payment, with the exception of some VA and profession-specific loans that still offer 100% financing. Many buyers buy with whatever savings they currently have, so long as it’s more than the bank’s 3.5% bare minimum. However, the best interest rates require a full 20% down payment. If you’ve got a relative who’d like to help out, this could be the perfect gift. Most lenders will allow some or all of the down payment to come from a gift, as long as you can produce a “gift letter” from your benefactor confirming your relationship and that the money is a gift, not a loan. Touch base with your mortgage pro to see what your particular loan program guidelines around gift funds are — before you deposit the check!
5. Bump your down payment to 20% with a little help from your IRA or 401(k)
Currently, you can withdraw up to $10,000 from your traditional IRA for your down payment on your first home without penalty (although you will incur income tax). You can withdraw as much as you want from what you’ve contributed to your Roth IRA without being taxed, and an additional $10,000 in Roth IRA earnings without penalty. With your 401(k), it’s a bit different — some providers will allow you to borrow against your own account and repay yourself over time with interest.
If you can borrow from yourself instead of a lender, it probably makes better sense to repay yourself — especially if you can borrow enough from your retirement savings to put you over the 20% mark, so you can get a lower interest rate on the entire mortgage balance. Of course, consult your CPA or tax adviser before applying retirement account funds toward the purchase of your home.
What tactics have you employed to get a loan? Share your tips and experiences in the comments!