Elements of Qualifying for a Loan
and Loan Pricing
There are six major elements that we analyze in underwriting of the loan to determine the borrower’s borrowing capacity and deriving the pricing of the loan. Below we will briefly discuss each of them and shed a light on the ongoing evolution of underwriting criteria, program flexibility and risk factors.
The ultimate goal of underwriting is basically risk assessment, whether the loan given will be repaid as agreed or not. Hence, the higher the risk the higher the interest rate of the loan.
1 – Income
People have different type of employment profile. Some are salaried, other are self-employed and there are some who have more than one job. Analyzing income is one of the most important factors in underwriting process and documentation required depends on the type of the employment profile. In today’s market the best programs with lowest rates are only available to fully documented qualified borrowers. Of course there are options for consumers who are no able to document income but usually those programs come with slightly higher rates, fees and terms compared to the latter.
2 – Credit
Having a good credit and credit scores is vital to qualifying process. Bankruptcies, foreclosures, judgments, collections and late payments on credit report severely limit the borrower’s qualification. A good credit score is considered FICO scores over 740. Of course there are programs for those with lower credit scores and even with history of the derogatory evens mentioned above but the terms of the loan are directly affected by the history and the FICO score of the borrower’s credit. The lower the credit score the higher the mortgage rate and tighter qualifying criteria.
3 – Down payment amount
The amount of down payment plays a big role on the final rate and terms of the mortgage. The down payment is the borrower’s equity in the transaction. Naturally the higher the down payment the better the terms of the loan. The terms of the loan are directly tied to the risk level of the lender so rates are higher for low down payment program and lower if the down payment is higher.
4 – Loan Amount
There are different limits for loan amounts and the limits are different in each county. For Los Angeles county the conforming loan limit for single family home is $0 to $453,100, high balance limit is $453,101 to $679,650 and anything over that is considered jumbo loan. The underwriting guidelines and loan rates vary between these limits.
5- Type of property
Common types of properties in residential financing are: single family homes, condos and town-houses and one to four units. Apartments buildings five units and up are considered commercial residential properties. Interest rates are higher and underwriting is tighter for condos and townhomes when the down payment is low. Two to four unit properties are also subject to higher rates. The logic behind why they are higher risk loans is because the rental income from other units are used to help qualify the borrower and in the event of a vacancy the repayment of the loan is at risk.
6 – Assets / Reserves
Most mortgage loans require reserves after the down payment. The amount of reserve requirement varies upon the type of financing being done. Little or no reserves may result in yield adjustment or denial on certain transactions.