How to Prepare Yourself for a Mortgage

Buying a home is a rewarding life aspiration and a significant milestone on the road to wealth and future financial security. But as a new homebuyer, the steps for obtaining a mortgage can seem like a significant undertaking with plenty of moving parts that can potentially knock you off course. Avoid surprises and delays, and secure the financing you need with these tips for navigating the process of applying for a home loan with greater confidence and ease:

Make sure you know the basic factors that concern lenders when making mortgage decisions.

When evaluating whether to approve a loan and at what interest rate, lenders examine a multitude of factors to assess the level of risk you pose and your ability to repay the loan. Key considerations include your gross monthly income, debt-to-income ratio, credit profile and credit score, work history, and your assets and obligations. To protect their investment, they will also consider the down payment, and the value and condition of the home you intend to buy. 

Be aware that lenders will need to verify your income and examine financial statements and tax returns to get a window into your financial health and ensure that your income is steady and stable. In addition, they will need to pull your credit report and score. 

Be aware of how slight differences in interest rates can affect the cost and affordability of a home.

As a primary indicator of your reliability in paying back the money that you borrow, your credit history and score have a major impact on the interest rate and terms you are eligible to receive. The higher your score, the better your chances of qualifying for a mortgage and getting a competitive interest rate. Although you can obtain a home loan without excellent credit, a lower score means you will pay more for your loan, which affects both your budget as well as your buying power.

Even a small rate variation of 0.5% or 1.0% can significantly impact your monthly mortgage payment and make a substantial difference in how much you pay for your home over the life of the loan. Paying a higher interest rate also means less purchasing power. This is because loans must conform to underwriting requirements that limit how much of your gross income can be used toward recurring debt payments each month. If monthly debt payments increase to a certain level, a homebuyer may not meet the criteria for a specific loan amount.

Lenders will categorize a credit score into one of several tiers closely tied to the interest rate they may be willing to extend to the buyer. In general, only those with a FICO score of 760 or higher will be eligible for the lowest possible mortgage rates. However, it’s important to keep in mind that other variables will impact the rate a lender will offer, such as the down payment, loan amount, home’s location, interest type (fixed or adjustable), and more. Also note that scoring models will vary, and credit score requirements depend on the lender and loan type. 

When it comes to mortgage eligibility, a minimum credit score of 620 is usually required for a conventional mortgage, and jumbo loans often require a score starting at 680 or 700. On the other hand, a score as low as 500 may qualify you for an FHA loan, which is backed by the Federal Housing Administration and has more lenient credit qualifications. 

Check your credit reports for accuracy, dispute any errors you find, and ensure that you make timely bill payments.

To get your credit in the best possible shape, start by reviewing your credit reports and score at least six months before you begin serious house hunting. You can get a free credit report each year from the three national credit reporting agencies (Experian, Equifax and TransUnion) at AnnualCreditReport.com. Be sure to dispute any errors that could be lowering your score, such as unauthorized accounts in your name, inaccurate balances, and accounts with incorrect credit limits. During this time, it is critical to pay your credit cards and other bills by the due date. Keep in mind that payment history accounts for the largest portion of your FICO score at 35%.

Pay down the balance on credit cards and other consumer debts.

If you have existing debt like a balance on credit cards, personal loans, or other types of consumer debt, chipping away at it can be an effective way to boost your credit score, and to improve your chances of meeting eligibility requirements for a mortgage. 

First, the amount you owe on your debts comprises 30% of your credit scores. The less credit you are using compared to that which has been extended to you (i.e., your credit limits), the better for your credit score. According to Experian, exceeding 30% credit utilization will have a significantly negative impact on your score, and using less is better.

Secondly, paying down debts will reduce your debt-to-income ratio (DTI), which is a critical measure lenders use in determining mortgage eligibility. Put simply, DTI is the percentage of your income used toward debt payments. 

While specific requirements vary, a common standard is to allow you to pay approximately 40% of your gross income toward recurring debt payments each month, including the mortgage payment and any credit cards, car payments, student loans, personal loans, etc. Although there are exceptions, 43% is typically the highest debt-to-income ratio you can have for a qualified mortgage. To determine how much you can borrow to stay within your budget, access our Mortgage Qualifier Calculator.

Do not close credit cards accounts after you have paid them off. But be careful not to take on more debt when shopping for a mortgage.

As you eliminate the balance on your credit cards and/or other types of revolving debt, be sure that you keep these accounts open, especially when you’re planning to apply for a mortgage. Be aware that closing these accounts can negatively affect both your credit history, and your credit utilization ratio, effectively lowering your credit score. However, you should avoid racking up new debt and making any large purchases during this time. Keep your accounts active but do your best to pay the balance off in full each month. 

In addition to your down payment and monthly mortgage, you’ll want to have a reasonably good estimate of ongoing expenses and significant one-time fees associated with buying and owning a home.

Financial experts have emphasized that the maximum size loan that a lender will approve for you should not necessarily dictate how much you should spend on a mortgage. You’ll want to manage the payments comfortably enough so that you’re not so cash strapped that you jeopardize your well-being or must overhaul your lifestyle completely.

Be sure to account for property taxes, homeowners insurance, and closing costs (fees associated with the home purchase that are typically between 2-5% of the home’s purchase price). Also factor in utilities, any new appliances you’ll need, landscaping and/or homeowners association fees, and moving costs. Of course, as a homeowner, you’ll also have to cover repairs and maintenance yourself. If you do not have a have a cash buffer of three to six months’ worth of living expenses in a dedicated emergency fund, buying a home is a great reason to start building this financial cushion. 

Shop around for a mortgage — but do it within a limited timeframe.

Although it’s a good idea to get three to five different mortgage quotes, it’s best to confine your mortgage applications to a short timeframe (within a 14- to 45-day window). Authorizing a lender to check your credit for the purpose of extending a loan is considered a “hard” inquiry, which may result in your credit score dropping by a few points. However, if you complete multiple applications within a brief period, these inquiries will be treated as just one in terms of impact to your credit score.

Be aware that you may have options that do not involve a 20% down payment.

A down payment of 10 to 20 percent of a home’s purchase price was once standard for a 30-year fixed mortgage. But there are various mortgage programs available today intended to make home ownership more accessible for first-time buyers, including loans with favorable terms like low or no-down payment requirements, very affordable rates, fewer fees, and in some cases, even closing cost assistance. 

To be clear, there are important advantages to making a larger down payment, such as building faster equity in your home, avoiding private mortgage insurance (PMI), and saving money on financing. But especially if you are buying in a market where 20% down equates to more than $200,00 for the median-priced home, it can make sense to investigate mortgage options that do not require that you save such a considerable lump sum.

If you’re ready to explore your options as a first-time homebuyer, a great place to start is The Police Credit Union’s Home Loan Center. You’ll find a wealth of information and tools, and a wide range of affordable loans to fit your budget and lifestyles goals, from FHA and VA Loans, to first-time mortgages with below-market rates, low fees, and down payments as low as 3.0%. 

In addition, we’re proud to offer our members who are active-duty law enforcement buying their first home in California our H.E.R.O. Loan, a zero-down payment loan with no private mortgage insurance (PMI) requirement and loan limits up to $1,000,000,000*. What’s more, this loan is eligible for our “End of Watch Debt Forgiveness Benefit,” which provides peace of mind and a financial safety net for the families of qualified fallen officers, at no cost to the member.

Program available to first-time homebuying members of the credit union that are an active full-time sworn peace officer or reserve peace officer employed by a federal, state, county or municipal agency. Program consists of a fixed or variable rate 1st and a fixed 2nd mortgage. Property must be located in California, and be owner occupied. First time home buyers may not have had ownership in a principal residence during the preceding 3 years. All loans subject to credit approval, documented income and reserve requirements. There is a non-refundable application fee of $95 for this program that will be credited back at closing. Additional terms, conditions and restrictions apply. Program is subject to change or cancellation without notice. Contact your TPCU Loan Officer for terms, rates and full details. Federally insured by the  NCUA. Equal Housing Opportunity. NMLS #: 409710

*Maximum loan limit may go up to $2,000,000 for qualified applicants, amount is for the total combined amount of the first and second mortgages.