As a loan officer, I talk to people every day, and no matter how different they are, I always end up asking the same question: How is your credit? The smarter clients, like those who have bought or refinanced a home before, know exactly how good their credit is and know that every loan officer they talk to is salivating at the chance to do a loan for someone with a 720+ credit score. For everyone else, this question makes me want to give a short talk about credit. I don't mind. I like teaching people, and I hope I'm the only loan officer they talk to who is willing to take the time to explain the complicated details of credit. Keeping this in mind, I set out to write an article for people who are buying their first home or refinancing for the first time. In it, I would explain these basic lessons. Before applying for a loan, I think there are three important things a person should do to get their finances in order. Credit reporting companies can take up to six months to update your credit report, so start now and you'll be ready for the future.
- Start paying off your credit cards if you still owe money on them. We all know that this is what we should be doing, but a lot of Americans keep putting it off. When you apply for a home loan, the loan underwriter will look at your ability to pay back all of your debt, and a high annual salary usually looks pretty good. But the underwriter will also look at your current debt on revolving accounts and how much you pay each month toward that debt. Often, they'll use 3 per cent of the balance instead of your monthly minimum. This makes a big difference when figuring out how much of your salary goes toward your monthly bills. Don't fall into the trap of thinking that a big salary is enough if you get paid well. I just worked with a client who made more than $70,000 a year. He didn't pay down his credit card balances because he thought his salary was enough to get a good rate on his loan. He was wrong, so we had to put him in a programme with less-than-ideal documentation and an interest rate. In short, you need to start working hard to pay off your credit cards.
- Save money to pay for the costs of moving. Closing costs include things like title costs, loan fees, discount fees, inspection fees, appraisal fees, and so on. When you refinance your current home, you can add the closing costs to the amount of the loan. But when you buy a house, you'll need to bring these fees, which can cost between $3,000 and $7,000, to the closing. There are loan programmes that let you pay for your closing costs with a loan, but you'll have to pay more for the convenience. If you're counting on the seller to pay closing costs, keep in mind that what the seller pays in closing costs is like a discount on the price of the house. If the house doesn't appraise within the range, the seller can't pay for your closing costs. For example, say you find a $200,000 home and the seller pays $5,000 in closing costs. What the seller actually gets for the house is $195,000, which is the sales price of $200,000 minus the $5,000 the seller gave you back to cover closing costs. An appraisal is a written estimate of a property's current market value based on recent sales of similar properties, the property's condition, and how the neighbourhood will affect the property's value in the future. Based on the appraisal, a lender will lend a certain amount of money. So, if this hypothetical house is worth $200,000, everything is fine. But if the house appraises for only $195,000, you can be sure that you can only get a loan for up to $195,000, so you'll still have to bring the $5,000 difference between the asking price of $200,000 and the appraisal price of $195,000 with you. If that's the case, why make the seller pay for anything? In short, you will have to pay for closing costs one way or another, so start saving now.
- Look at the report of your credit. The Fair and Accurate Credit Transactions Act says that consumers can get a free credit report from each of the three nationwide consumer credit reporting companies once every 12 months (Equifax, Experian, and TransUnion). This is the only site where you can get a free copy of your credit report from the three largest credit bureaus. You can ask for the reports by phone, email, or mail. Even though the site's report won't give you a credit score, it will give you a full copy of your credit history, which is all you need for now. Spend some time reading through each one. This is also a good time to check to see if your identity has been stolen. Do you have any late payments or delinquencies? Is there a mistake? Is there any bad information in the public record? Are there disagreements over money? You need to decide what to do about each negative item on your credit report. Even small things, like not paying your utility bill on time, can hurt your credit, so take care of them now.
Even though these steps are not the only ones you need to take, they will put you in the right direction to get the best mortgage possible. Before you buy your first house, it's important to save money and avoid anything that could hurt your credit report.
