How Much Do I Qualify for...REALLY?
by Diane St. James, Copyright 2001
With all the advanced mortgage technology available, and thanks to the speed of communication via the Internet, a lender can find out in a matter of minutes how much house you qualify for.
Many lenders have access to either FNMA (Federal National Mortgage Association) Desktop Underwriteror FHLMC (Federal Home Loan Mortgage Corporation) Loan Prospector. These are fancy names for two of the direct loan approval systems used by the two biggest agencies that purchase conventional mortgages from lenders and mortgage bankers.
Both Freddie Mac (FHLMC's nickname) and FannieMae (FNMA's nickname) allow approved brokers and lenders to submit a loan application to them via the computer either with direct access or the Internet. At this point, they obtain an internal credit report on the potential borrower and based on the information on the application and that credit report, a decision is provided and can be retrieved within minutes. An "Accept" or "Eligible" response is good news!
When you apply for this type of pre-approval to see how much you qualify for, a lot of the decision is based on your credit score, which is kind of like a report card of how well you've been paying your bills since you got your first credit card. The only thing is, unlike your report card, your credit report can't be accidentally eaten by the dog. (This excuse can be left for the whereabouts of last year's tax return.)
If you paid all your bills on time and didn't abuse your credit, your score is probably good. So, just like in school, if you studied and did well on your tests you got A's and B's (unless you were just smart, and one of those kids the rest of us envied ). If you have been slow in making payments or you owed money and didn't pay so that now there are collection accounts, or you filed bankruptcy, your score is undoubtedly lower, the equivalent of D's and worse. I use the comparison to report cards because most of us can relate to them from our school days. Anyway, the higher the score, the better chance for instant approval. Excellent credit scores are generally those over 700. Very good to good scores are approximately 700 to 660. Once the score gets below 620, it is not as certain the loan will be approved through this loan decision system.
Even though the loan response also depends on the amount of down payment, assets and income you have, the credit history seems to have the most bearing. I say this because I have seen these instant approvals for loans with people whose debts including the new mortgage are a whopping 60% or more of their gross monthly income. This is because their credit score was high.
With this new system, gone is the old underwriting standard that your total monthly debts including the mortgage is limited to 36-38% of your gross monthly income. Instead, you can have your car loans, credit card bills and be approved for that $200,000 loan, even though you may only have enough disposable income left to buy a quart of milk. That is a scary thought to me, but I see it all the time.
Many borrowers assume that if they've been approved for that $200,000 loan, they must be able to handle the payment. They forget that a good chunk of their gross monthly income is eaten up by taxes, social security, Medicare&ldots;and more taxes. If you look at it this way, now the debts including the mortgage may be actually closer to 85% or more of their actual take-home pay. And these debts don't include food, utilities, clothes&ldots;.and that toy that Billy just has to have&ldots;get the picture?
Modern technology is wonderful and it is great to get these fast approvals. But if you are buying a new home, you may want to stop asking, "How much do I qualify for?" Instead ask "How much mortgage payment can I afford and still live comfortably?" Otherwise you may looking at getting a second job as well as put your kids to work slinging hamburgers just to makes end meet.
Diane St. James is a mortgage professional with over 23 years