Pre-approved borrowers can rest a little easier than other wanna-be homeowners because they know that they’ve already jumped through most of the hoops to qualify for a mortgage.
As a savvy soon-to-be homeowner, you know that getting a mortgage pre-approval is absolutely critical if you want your home buying process to go smoothly, and it’s especially important now when sellers want to see solid proof of financing.
(New to the idea of pre-approval? Not sure when you should get pre-approved for your mortgage? You can check out the previous posts in our pre-approval series here.)
What does it actually take to get pre-approved for a mortgage?
Ultimately, lenders decide whether to approve a potential borrower based on four key factors:
- Credit History
How exactly do these factors determine whether or not you’ll be pre-approved for a mortgage? And what documentation will you need to provide to get pre-approved?
When evaluating potential borrowers, lenders’ biggest concerns are pretty straightforward. Can this person afford to borrow the money for this home? Can we trust this person to pay us back?
As you might guess, How much money does this person earn? is pretty high on a lender’s list of concerns when trying to determine whether an applicant is a good bet for a mortgage. So to pre-qualify for a mortgage, you’ll need to let lenders know just how much money you’re bringing home every month.
Interestingly, how much you make is not the only income-related question lenders are curious about.
Mortgage lenders want to know that you are making money. But they also strongly prefer to see that you’ve been consistently employed with the same company or in the same industry for a few years. Leaving your job or changing careers mid-way through your mortgage application can potentially jeopardize your home financing. Quitting your actuarial job to become a trapeze instructor is going to make the mortgage underwriters very nervous. Now more than ever, being able to show a high likelihood of continuous and consistent income during the approval process is key.
Income documentation required for mortgage pre-approval:
At a minimum, you’ll need to provide a copy of last year’s earned income. If you’re a salaried or hourly-wage-earning employee, you’ll need to have your most recent W2s and in many cases the last two years (if you’ve switched employers in that timeframe, then you should expect to provide 2 years). You may not need to hand over your most recent pay stubs for pre-approval, but you’ll definitely need them for your full mortgage application, so have copies of any recent pay stubs on standby.
If you own a business or are self-employed, get ready for a pretty thorough review of your business finances. It’s not unusual for lenders to want the current year’s profit-and-loss statements and at least two years of the business’s tax returns. If you have been self-employed with the same business for the last 5 years, then you will start to see the reduction in documentation requirements.
And don’t forget about documenting income from social security, disability, child support, or your side hustle walking dogs. Basically, if the income shows up in your bank account at any point and will be used for qualification, you’ll need to account for it before the mortgage process is over.
Contrary to the unsolicited financial advice that one uncle of yours likes to offer up at family gatherings, you do not need to have 20% of the cost of your future home ready to use as a down payment.
But even if your home buying future includes a low down payment, you will still need to have some funds in the bank to buy a home. There are closing costs, moving expenses, and usually some one-time repairs or improvements you’ll want to make to your new home right as you move in. Some lenders will want to see that borrowers have several months’ worth of future mortgage payments in reserve cash. You know, just in case something happens. If you’re using retirement funds or funds in the stock/bond market, you must also be prepared to liquidate these funds for review prior to final approval.
Asset documents required for mortgage pre-approval:
Usually, you’ll need to provide the most recent two months’ statements or most recent quarterly statement for your checking and savings accounts. (If you are using Morty for your pre-approval, you won’t need to print and scan pages of old bank statements. We’ll help you do that part online, no fussy printing and scanning required.)
It is also common to receive a gift from a relative to help cover some of the closing costs or down payment. The lender will require the donor to fill out and sign a gift letter which confirms the amount of the gift and the accounts being used for the transfer. While the letter is usually not required for pre-approval, it will be required prior to closing.
You will also need your most recent statements from any investment or retirement accounts you currently have—especially if you’ll be drawing from investments for, say, your down payment.
For a mortgage pre-approval, you will probably only need to list your property assets.
But have the deeds and information about any other property you own on standby. You’ll need to include that documentation with your complete mortgage application.
You do not need to be 100% debt-free before you take on the joys and responsibilities of homeownership. What you will need is a current debt-load that, when combined with your soon-to-be mortgage payment, still leaves you enough money to eat and pay utility bills and occasionally get new shoes when the old ones wear out.
Mortgage lenders will calculate your debt-to-income ratio when determining whether or not you qualify for a mortgage. Generally, lenders are hoping to see that even with the additional expense of a mortgage to pay, you won’t be spending more than 43% of your pre-tax income repaying debts. Depending on other factors in your application (for example, credit score and assets) and the mortgage programs you are best suited for, some lenders will allow a debt-to-income ratio of up to 50%, but this varies on a case-by-case basis and the 43% cut-off gives access to the most widespread set of lending terms & programs.
If you currently own a home and have a mortgage but plan to sell the home before purchasing the new one, you will want to make sure this is properly captured on your pre-approval application so the lender knows not to exclude this when calculating your debt-to-income ratio.
(It’s also worth noting that 43% of your pre-tax income is a pretty sizable level of debt. Even if lenders allow it, it’s almost definitely in your financial interests to try to keep your personal debt-to-income ratio lower than that.)
Debt documentation required for mortgage pre-approval:
Lenders will be able to glean most of your debt obligations from your credit report. If you’ve got other debts that may not show up on your credit report—perhaps you pay child support or alimony, or you have an informal family debt that you’re repaying—be sure to include these or discuss them with your mortgage advisor when figuring out how much home you can qualify for.
A Good Credit Score
Are you the kind of person who has been tracking your credit score for ages? Then you are in luck. Buying a home is one of those moments in your life where your credit score really does matter.
If you haven’t been obsessively tracking and tweaking your creditworthiness for your entire adult life, don’t fret. Your credit score does not need to be stratospherically high to be qualified for a mortgage. Almost all lenders will work with borrowers whose scores are in at least the mid-600s.
Over the past few years, conventional mortgages (those backed by Fannie Mae and Freddie Mac) have required a minimum credit score of 620. Credit score requirements for FHA mortgage are even lower. Just how low depends on how much the borrower is able to use for a down payment. With an FHA loan, a would-be homeowner can have a score as low as 580 if they are able to put 3.5% down, and as low as 500 if they can put down at least 10%.
That being said, it’s important to note that lenders have halted many Non-Agency programs as well as adjusted and tightened the lending requirements across the more common Conventional and Government mortgage programs (FHA, VA) as COVID-19 impacts the economy. We’ve seen a wide variance from lender to lender, many increasing minimum FICO scores or minimum down payment percentages.
Credit documentation required for pre-approval:
As you go through the pre-approval process, the lender will require you to do a tri-merge credit pull. This report pulls credit from the three major credit bureaus: Experian, Transunion and Equifax. For this reason, it is considered a hard inquiry (whereas a soft inquiry only pulls credit history and a score from one of the bureaus). Lenders are required to use the middle credit score from the three bureaus to determine what loan types and products to offer you. If you have a co-borrower, the lender will use the lower of the two middle scores.
You won’t have to request and print credit reports for yourself, though. During the application or profile-building process, you’ll just need to give your permission to have credit reports generated for you and your co-borrower.
Got all that?
Getting a pre-approval for a mortgage involves a pretty thorough look at your finances. Given the unfortunate current circumstances and large-scale unemployment, some of these documentation requirements may be more stringent than usual (and are subject to change). Not only will you want to consult with your mortgage advisor about how you can be best prepared for a smooth process from pre-approval to closing, you may need to update and change your pre-approval multiple times. With Morty, you can make those changes automatically, and we’ve got expert mortgage advisors to help you every step of the way if you need.
The actual pre-approval process doesn’t need to be long, hard, or tedious. If you’re ready to get a pre-approval for a mortgage now, you can head over here to get started with Morty.