Getting approved for a mortgage these days is nowhere near as easy as it was before the economic debacle back in 2008. Lenders are a lot more stringent in their mortgage lending criteria, and for good reason: they don’t want to get stuck with a pile of loans in default.
About one-third of all mortgage applications are denied by lenders, according to the Mortgage Bankers Association. And half of refinancing applications are also rejected.
But as challenging as it can be to get approved for a mortgage, it’s not impossible, as long as you’ve got all your ducks in a row.
Here are a handful of reasons why borrowers are denied mortgages, and what can be done to offset them.
1. Insufficient Income
The money used to pay for your mortgage has to come from somewhere. If your income is not sufficient enough to afford a specific loan amount, you’ll likely be rejected. And if you’ve recently changed your line of work or went from a salaried position to a freelancer, your home loan application stands a better chance of rejection based on income.
Even if you’ve got sufficient income, maybe it’s not properly documented. Having a pile of cash doesn’t make you a shoe-in for a successful mortgage applicant. If you can’t adequately prove your ability to afford the loan and support your income with tax records, lenders don’t have anything to go on. This can often happen to self-employed individuals who don’t have proper accounting practices in place. Many jobs that are paid for in cash aren’t documented with the IRS, so there’s little paperwork existing to back up income.
How to fix it: Make sure all your income is properly documented. You might think you’re saving a few bucks by not making full tax claims to the IRS, but doing so will leave you with limited documentation as far as your actual income is concerned.
2. Credit Issues
Among all the factors lenders look at when assessing borrowers, credit score is a big one. Generally, lenders will be apprehensive about loaning capital to borrowers whose credit score is under 600, but the ideal benchmark is a score of 740. If your score is in the 500’s or lower, odds of getting approved for a mortgage are pretty slim, if not impossible.
And even if you are approved, the interest rate you’ll be charged will likely be pretty high. Every 20-point increment lower than 740 means the loan is more likely to result in default. In order to compensate for this risk, lenders will increase the cost to the borrower by increasing the interest rate.
How to fix it: While repairing your credit score won’t happen overnight, there are plenty of things that can be done to gradually bring a low score up to snuff. The first thing you should do is find out what your score is by pulling your credit report through one of the three credit bureaus. You never know – there might be errors in your report that are bringing your score down unnecessarily. If that’s the case, you can insist on an investigation to rectify these mistakes.
You should also resist the urge to make large purchases on credit, such as a new car. And now is not the time to start applying for new credit cards either. If you’ve already got a credit card or two, make sure you don’t go over the credit limit. In fact, try to stay as far away from the limit as possible.
And as always, pay your bills on time, in full, and as quickly as possible.
3. Unfavorable Debt-to-Income Ratio
Even decent income might not be enough to secure a mortgage approval if you’re growing in debt. Lenders look at many factors, including a borrower’s debt-to-income ratio, which is basically the percentage of your monthly gross income that’s dedicated to paying off your monthly debt. If this number is too high, you’ll likely be denied a mortgage. Ideally, lenders want to see a debt-to-income ratio that’s no higher than 38%, which is the percentage of your income devoted to your debt payments. You wouldn’t want to get stuck with a mortgage if your ratio is that high, anyway – nobody wants to wind up “house poor.”
If you’ve got certain factors that can balance out your debt and help your financial situation – such as a high credit score or lots of home equity – lenders may be willing to bend a little, but only up to a maximum of 45%.
How to fix it: You can help the situation by calculating your debt-to-income ratio before you even apply for a mortgage. If you come up with a number that’s higher than 38%, now’s the time to make some changes to drop it down. Think of some ways to reduce excess debt or increase your income. Take steps to strengthen your credit score, such as ensuring all debt payments are made on time and in full every month. Find ways to beef up the down payment so the amount of loan you apply for is reduced.
4. Under-Appraisal of Property Purchased
Lenders want to make sure the property being financed is actually worth what you’ve agreed to pay for it. That’s why they send out an appraiser to assess what the property is worth under current market conditions. If the property is deemed to be worth less than what you bought it for, you stand a good chance of getting rejected for a home loan.
You’ll only be loaned an amount of money that is justified by the home’s value. The lender will be put at risk if more money is loaned compared to what the property can realistically be sold for should you default on your mortgage. To minimize this risk, lenders will simply deny a loan amount based on the appraisal of the home.
How to fix it: You can ask to have the property re-appraised by another appraiser. Maybe the one appointed wasn’t fully qualified, or didn’t use all the pertinent data needed to make an accurate assessment. You can also use the appraisal as a negotiating tool with the seller to try and have the price reduced.
5. Gaps in the Actual Application
Mortgage applications aren’t exactly fun, nor are they usually completed in a couple of minutes. But making sure that they are filled out in entirety and that all information provided is 100% accurate is essential. Not only can gaps in the application itself delay the mortgage process, it can derail it completely.
How to fix it: Go through your application with a fine-tooth comb to make sure you haven’t missed anything, and that all information provided is complete and verifiable. Mortgage brokers are there to help you with the process, so don’t hesitate to connect with these professionals when filling out these important documents.
The Bottom Line
Nobody applying for a mortgage wants to see the words “REJECTED” splashed across their application. But there are things you can do right now to avoid this ugly scenario. Working with a professional mortgage specialist can help you identify potential problems with your financial portfolio, and set you up for success when you’re finally ready to apply for a home loan.