Mortgage Dos and Don’ts

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Mortgage Dos and Don’ts

Purchasing a house is a major life decision, particularly your first one. Navigating all the varied terms and elements may often be challenging. You want to be sure you’re ready from the outset and are making all the proper choices as the process unfolds when making such a significant purchase. Here are a few things to think about if you’re thinking about acquiring a mortgage or refinancing the one you currently have.

Key Takeaways

  • Review your credit report to ensure all information is accurate and to make any necessary corrections if you want to apply for a new mortgage.
  • Pay off debt and limit credit card usage to raise your credit score to qualify for a higher mortgage rate.
  • Lenders can see that you can afford your monthly payments by looking at your debt-to-income ratio, which compares the amount of debt you repay to your total income.
  • Spend just what you can afford to pay back in monthly installments, such as 30% of your take-home salary, rather than the maximum amount for which you are eligible.
  • Don’t automatically assume that you can refinance and receive a better rate down the road since rates might fluctuate during the year.

What Influences Mortgage Rates?

The economy, inflation, and the Federal Reserve are a few of the variables that have an impact on mortgage rates.

Since March 15, 2020, when the COVID-19 pandemic first broke out, the Federal Reserve’s Fed Funds Rate, the main overnight bank lending rate that affects all other interest rates, has been at a target range of 0.0% to 0.25%.

Your mortgage rate may increase as a result of potential interest rate increases by the Federal Reserve. Depending on the kind of mortgage you have, when and how will vary.

Mortgages with long-term fixed rates are correlated with the yields on long-term US Treasury notes. Interest rates increase along with these returns. Home equity lines of credit (HELOCs) and adjustable-rate mortgages (ARMs) are linked to the prime lending rate. Banks boost their prime rates when the Fed does, which raises your mortgage rate as well.

A mortgage calculator may be a useful tool for creating a budget for these expenses.

Check Your Credit Report

Your credit report is examined by lenders to determine if you qualify for a loan and at what interest rate. In accordance with the law, Equifax, Experian, and TransUnion, the “big three” credit rating organizations, are required to provide you with one free credit report each year. Make sure your credit report is correct by giving it a critical inspection. If there are any errors, you should correct them right away.

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Be wary of unusual things, identity theft, information belonging to a previous spouse that is no longer yours, outdated data, and inaccurate notations for closed accounts. Make sure you follow up with the lender or creditor who reported the item and notify the three agencies immediately if there are any anomalies.

Improve Your Credit Score

It pays to maintain your credit score as high as you can since it generally implies you’ll qualify for a better mortgage. The FICO score is the most popular, and many financial institutions provide their clients a free copy each month. A FICO score may also be purchased from one of the three credit rating companies.

The range of credit scores is 300–850, with 300 denoting extremely low credit and 850 denoting outstanding credit.

Pay off debt, set up payment reminders to make sure bills are paid on time, maintain low credit card and revolving credit balances, and lower the total amount owing in order to raise your credit score. Stop using your credit cards, or at least limit their use, is one of the greatest methods to do this.

Lower Your Debt-to-Income Ratio

To assess your capacity to handle your monthly payments, lenders consider your debt-to-income ratio, or the ratio of your debt repayment to your total income. They also use it to calculate the price range of homes you can afford. With no more than 28% of the debt going toward mortgage payments, or the front-end ratio, lenders like to see debt-to-income ratios that are less than 36%. Your mortgage rate will be better the stronger these ratios are.

In order to acquire a better mortgage rate, you may reduce your debt-to-income ratio in two ways:

  • Reduce your recurrent monthly debt by limiting your expenditure to the necessities.
  • Get a second job or put in more hours at your current employment to increase your prospective income.
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Although all of these approaches are viable, bear in mind that neither one is always simple to implement.

Consider the Amount of the Mortgage

You shouldn’t assume that just because you qualify for a specific amount, you must spend that much on a property.

A prudent strategy is to limit your housing expenses, which include your mortgage, real estate taxes, homeowner’s insurance, and homeowner’s association dues, to no more than 30% of your gross income. If you really want to be sure you’re shopping in the proper price range, don’t forget to include in maintenance fees.

Decide which is more essential while looking for a property: having a more costly home or having a little more money in your budget each month. Remember that owning a house with a mortgage requires a 30-year commitment.

Don’t Count on Refinancing to Lower Your Interest Rate

It may not be the best moment to refinance since mortgage rates have begun to gradually rise from record lows and they might continue to do so. However, you may be able to save money by cutting the length of your loan.

For instance, switching from a 30-year fixed-rate loan to a 15-year loan with a better rate, or by using a cash-out refinance when your new mortgage amount is more than the old one. This enables you to use the equity in your house to settle other obligations. Paying off higher-interest debt, like as your auto loan, student loans, and/or credit cards, may result in you saving money in the long run, despite the fact that your monthly payment will increase.

You should do the math to make sure you aren’t increasing your financial burden before undertaking any refinancing.

What Should You Not Say to a Mortgage Lender?

You should avoid saying things like “how much can I borrow” to your mortgage lender, among other things. (You should be aware of this and ready for it), “I’m still saving up money for my down payment,” any falsehoods, the claim that you often change jobs, or any other claims that give the impression that you lack financial security.

Do Mortgage Lenders Look at Your Spending Habits?

Your financial accounts are examined by mortgage lenders to assess your stability and likelihood of mortgage default. They will examine your monthly expenses, such as school loans or other debt, your normal spending patterns, any account overdrafts, and any deposits that are unusual or cannot be explained in order to evaluate these issues.

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How Do I Know If It’s Worth Refinancing?

If your interest rate will be 1%–2% lower or more, according to financial experts, refinancing will likely be worthwhile. The amount you would save by refinancing must be increased by the expenses of refinancing.

Usually, after a specific amount of time, refinancing will cover such expenses. It is thus more probable that refinancing will be worthwhile if you want to live in your house for a long period. Perhaps refinancing is not worthwhile if you want to leave or sell your property shortly.

For What Reasons Would a Mortgage Be Declined?

A mortgage application may be rejected for a number of reasons, including a lackluster credit history or credit score, insufficient income from a job, or a high debt-to-income ratio.

How Far Back Do Lenders Look at Bank Statements?

Lenders often review bank statements going back two to three months, but they may go back even longer if they believe it is necessary to better understand your financial history.

The Bottom Line

In terms of monthly payments, total interest paid over the life of the loan, and the size of the loan (and property) you’ll qualify for, even a minor adjustment in interest rates may have a significant impact.

A $200,000 30-year fixed-rate mortgage at 4%, for instance, would have a payment of $954.83 per month and a total interest cost of $143,739.01. Increase the interest rate by 0.5% (for a total of 4.5%) and your monthly payment would be $1,013.37, while the total amount of interest paid would be $164,813.42—roughly $2 more every day for 30 years.

Given the aforementioned, it is always advisable to focus on raising your credit rating, credit history, and debt-to-income ratio in order to be eligible for the best rate. Don’t borrow more money than you can easily afford, of course.

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