The Real Estate Encyclopedia
How Does The Loan Application Process Work And What Are The Lender's Requirements?
Category - Mortgage Questions - Mortgage Loans FAQ's

The primary concern of the lender is to approve loan requests, which show a high probability that they will be repaid as agreed.  Loan analysis differs from lender to lender.  In 1991, the five major federal agencies standardized their requirements. At this time, all loans for underwriting by Fannie Mae, Freddie Mac, HUD/FHA, VA or Farmer’s Home Administration must comply with the same standards. 


Under these standardized requirements:


Ø       The borrower must specify the type of mortgage and terms of the loan he/she is applying for.  This helps the lender determine whether the funds are available for that particular type of loan.


Ø       The lender starts the loan analysis by looking at the property and proposed financing. 


     An appraiser is assigned to prepare an appraisal of the property and a title search is ordered.  These steps determine the fair market value of the property in question.  As a rule, loans are made based on the appraised value or the purchase price of the property, whichever is lower.  If the purchase price is higher than the appraised value of the home, buyer and seller must re-negotiate the price to meet the appraised value or the buyer must make up for the difference in cash.  

Ø       Next, the lender reviews the borrower's assets and ensures the buyer has the necessary settlement funds to ensure he/she will be able to repay the loan.  The lender will want to know whether the funds are presently in a checking or savings account or are they coming from the sale of the borrower’s present home?  If they are pending the sale of the borrower’s home, the lender knows the loan is contingent upon the closing of that property.  Most lenders are requiring some form of down payment and obtaining 100 percent loan is becoming a thing of the past. 


Ø       The lender analyses the borrower’s (and co-borrower’s) funds, including monthly income statements.  Here the employment history plays an important role; interest, dividend , rental income and its stability as a resource; any additional income stated by the borrower, such as alimony, child support or other separate maintenance payments received; assets and liabilities, e.g. liquid assets, or assets which are in cash or can be quickly converted to cash or illiquid assets, those which would take longer to convert; life insurance and its cash value and face amount (the amount that would be paid in the event of the insured’s death).


Ø       The lender will also analyze the borrower’s liabilities, including fixed payments such as car loans, because these payments will compete every month with the borrower’s capability to repay the mortgage loan.  The presence of monthly liabilities is not all negative because it will show the lender the applicant’s payment history. 


Ø       The lender compares the proposed monthly housing expense to the gross monthly income.  A general rule of thumb used by the lender is that the housing expense should not exceed 25% to 30% of the gross monthly income.  A second guideline is that total fixed monthly expenses should not exceed 33% to 38% of income.  These expenses include housing expenses, car payments, installment loans, alimony, child support and investments with negative cash flow, as well as credit card debt payments.


Ø       The lender substracts the borrower(s) total debts from their total assets to identify their total net worth.  If the result is negative, the loan request is turned down as too risky.  In contrast, a substantial net worth will often offset weaknesses in the application, such as too little monthly income in relation to monthly housing expenses or an income that rises and falls erratically, as is the case with self-employed or contractual workers, including real estate agents.


Ø       Most importantly, the lender orders a credit report on the applicant(s).  The applicant will be asked to authorize this process and to pay for the report.  This provides the lender with a very accurate and independent method to verify the borrower(s) credit history and evaluate the risk.  Because it is possible for inaccurate or untrue information to be found in a credit report, which would unfairly damage a person’s credit reputation, Congress passed the Fair Credit Reporting Act (see Fair Credit Reporting Act).

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