If you want to buy a house but don’t have oodles of cash lying around, you’ll need to learn how to get a mortgage—that all-important home loan used to purchase property that you will then pay back for years or even decades to come.
The vast majority of home buyers need a mortgage to achieve their dream of homeownership, but that doesn’t mean lenders just hand out loans to everyone who asks. There’s a process, with requirements you’ll have to meet. So before you even set foot in a home, make sure you know the steps on how to get a mortgage so you can secure a loan without a hitch.
Step 1: Shop for a mortgage
Before you start shopping for homes, you should shop for a mortgage. Many first-time buyers wait until they’ve found the perfect home to start shopping for a mortgage and looking at mortgage rates—and that’s a mistake.
The reason: All lenders are a little bit different, so it pays to compare the loans they’re offering in terms of interest rates, closing costs, and more, says Richard Redmond, a mortgage broker and author of “Mortgages: The Insider’s Guide.”
This is a good time to decide whether you want to apply for a fixed-rate or adjustable-rate mortgage loan.
This step will also help you pinpoint any concerns lenders might have with your loan application, and give you time to fix these flaws so you’re in great shape to make an offer once your dream home does come along.
You’ll also want to check your credit report before you go much further. If your credit score is less than excellent, or even if you have bad credit, you have work to do before you can qualify for a loan with a favorable interest rate. You can take some steps (e.g., paying down loan amounts and possibly increasing credit card limits) to improve your credit score quickly. If your credit report shows more problems, however, you may need to spend several months to a year working on your credit score before you try again to get a mortgage.
Step 2: Get mortgage pre-approval
The goal of meeting with a mortgage lender is to get pre-approved for a mortgage. During this process, the lender will probe your financial past and check out your income, debts, and other factors that help it determine whether or not to give you a home loan—and how much house you can afford to buy.
Getting pre-approved is critical if you want your home-buying efforts to succeed. Why? Because a pre-approval letter from a lender shows home sellers that you have the financial backup necessary to buy their home. Without it, sellers have no guarantee you can afford their place and, in many cases, won’t take you seriously.
Don’t confuse pre-approval with getting pre-qualified. To pre-qualify, a borrower basically has a conversation with a lender about finances, but the borrower doesn’t need to provide any paperwork.
“A pre-qualification can be drafted on a piece of loose-leaf paper,” says Ray Rodriguez, regional mortgage sales manager at TD Bank. “It often holds no value.”
To apply for pre-approval, you’ll need to provide a lender with the following:
Pay stubs from the past 30 days showing your year-to-date and monthly income, or business profit and loss if you are self-employed
Two years of federal tax returns
Two years of W-2 forms from your employer
60 days or a quarterly statement of all of your asset accounts, which include your checking and savings, as well as any investment accounts such as CDs, IRAs, and other stocks or bonds
Any other current real estate holdings
Residential history for the past two years, including landlord contact information if you rented
Proof of funds for the down payment, such as a bank account statement (If the down payment cash is a gift from your parents, “you need to provide a letter that clearly states that the money is a gift and not a loan,” says Rodriguez. Otherwise, the money for the down payment affects your debt-to-income ratio, and can prevent you from getting the mortgage loan.)
A mortgage application
Permission to check your credit report and pull your credit score (Your credit history shows your history of making mortgage and credit card payments, and borrowing other money and paying it back responsibly. Your report also shows open debt accounts you may have, including student loans, credit cards, and other debts. Even if you have a good credit score, if you have too many debts, your debt-to-income ratio may be too high to qualify for the monthly payments on your new loan.)
Step 3: Get a home appraisal
After you’ve made an offer on a home and signed a sales contract, most lenders will want to check out what you’re buying with their loan proceeds—and size it up for themselves with a home appraisal. This means a home appraiser will assess the market value of the house using comparable homes, or comps, much like you and your real estate agent did when coming up with how much to offer on the home.
Most times, the appraiser’s price will end up approximately the same as your own—in which case all is good, says Rick Phillips, an appraiser and real estate agent in Vienna, VA. And if the appraisal comes in higher than what you’re paying, you’re getting a good deal. For example, if you’re paying $700,000 for a home and the appraiser says it’s worth $710,000, you’ve instantly gained $10,000 in home equity.
However, if the loan appraisal comes in lower than what you’ve agreed to pay for the home, that can be trouble, because lenders will loan you only as much money as the assessment says it’s worth, or up to a percentage of the assessment. That means you’ll have to pay the difference between the maximum loan amount and the purchase price plus closing costs—or persuade the seller to lower the sales price to what the lender thinks is fair. Another option is to challenge the loan appraisal by either filing an appeal or ordering a second loan appraisal. In most cases this all works out—and if it doesn’t, keep in mind your lender is essentially keeping you from overpaying for a dud.
Step 4: Clear the property title and close the deal
When you buy a home, you “take title” of the property—meaning you become the rightful owner. And your lender wants proof! As such, it’ll ask for a title search, which involves paying a title company to search public records for any heirs insisting the property is theirs, liens (from contractors who worked on the home but were never paid), or other problems. Hopefully all goes well, but in case not, this extra step could save you from a seriously scary situation where you’re fighting for ownership, or responsible for paying back old liens yourself.
Once the title is cleared, you can close the deal. That’s where buyer, seller, lender representative, and any others involved in this process meet to sign all of the paperwork, transfer all money owed, pass along the keys, and move on with their lives!
Sure, the whole mortgage process may sound time-consuming and complicated, but rest assured its purpose is to protect all parties, including you, from making costly mistakes.