4 Mortgage Programs you Must Know Before Buying a Home

Choosing the right mortgage is even more important than finding the right home. Is that even possible?

You look high and low for a home that dreams are made of, but without financing, your dreams won’t come true. So what type of mortgage programs are available and how do you qualify?

Most borrowers have four main options – each of which are a great way to finance a home. Check out the guidelines and requirements below.

Conventional Loans – The Traditional Loan

When you hear someone talk about a mortgage, your mind goes to the conventional loan as this is the ‘standard loan’ and the one everyone assumes requires a 20 percent down payment and perfect credit.

They don’t.

Conventional loans are more flexible than many realize. If you’re a first-time homebuyer, for example, you only need a 3 percent down payment and average, not perfect credit. Borrowers just need decent credit that shows financial responsibility. If you’re looking for a specific number, aim for a credit score of at least 660 for the best chances.

Besides your credit score and down payment, focus on your debts and how they compare to your income, known as your debt-to-income ratio. Lenders look at your gross monthly income (income before taxes) and the debts reporting on your credit report (credit cards, personal loans, student loans, etc.). Lenders only allow a specific amount of debt – if you have too much, you’re higher risk of default.

Qualifying for a conventional loan:

• 660 credit score or higher
• 3 percent down payment for first-time homebuyers or 5 percent for repeat buyers
• Maximum 36 percent debt ratio (some lenders may allow a slightly higher DTI)
• Stable income and employment history for the last 2 years
• Proof of assets for the down payment and closing costs
• No recent public records (foreclosure, bankruptcy, or collections)

If you make less than a 20 percent down payment, conventional loans require Private Mortgage Insurance until you owe less than 80 percent of the home’s value. You’ll know exactly when that will happen by looking at the amortization table.

FHA Loans – A Great Conventional Loan Alternative

Are you shaking your head, thinking you could never qualify for a conventional loan? Don’t worry, your chances of buying a home aren’t lost. Enter the FHA loan – the perfect conventional loan alternative.

FHA loans are more flexible and are great for many borrowers including first-time and repeat buyers. Borrowers love it for its low down payment requirements and flexible credit score requirements. FHA loans have the lowest credit score requirements in the industry – all you need is a 580.

Some lenders even go as low as 500, but if your score is between 500 – 579, you need a 10 percent down payment. It’s not a bad trade-off for getting a loan with less than average credit. The FHA even allows you to accept gift funds for your down payment. If you have a 580 credit score or higher, 100 percent of your down payment may be gift funds. Borrowers with lower credit scores must invest 3.5 percent of their funds, but the rest may be gift funds (7.5 percent).

Related: Can I Use an FHA Loan to Fund a Foreclosure?

Qualifying for an FHA loan:

• 580 credit score (500 in some cases with a higher down payment)
• 3.5 percent down (unless you have a 500 – 579 credit score, then 10 percent)
• Maximum 43 percent debt ratio (some lenders may allow up to a 50 percent DTI)
• Stable income and employment for the last 2 years
• Proof of assets for the down payment and closing costs
• No recent public records (foreclosure, bankruptcy, or collections)
• Proof that you’ll occupy the property as your primary residence

FHA loans require mortgage insurance for the life of the loan. The amount is usually less than conventional loans charge, but you can’t cancel it unless you pay off the loan and/or refinance.

VA Loans – A Loan for Veterans

Veterans and current military members have access to an incredible loan program. The VA loan provides 100 percent financing (no down payment) and the most flexible underwriting terms.

Veterans or current military members are eligible with at least 181 days of service during peacetime or 90 days during wartime and an honorable discharge or letter stating honorable service from your supervisor.

The VA has such flexible underwriting guidelines that they don’t require a specific credit score or maximum debt ratio. The VA focuses on your disposable income (money left after paying the bills). They credit their low default ratio to this because they ensure borrowers can afford their mortgage and the standard cost of living.

Related:  Secrets to a Great VA Loan

Qualifying for a VA loan:

• 620 credit score (this varies by lender, but 620 is the average)
• No down payment required, but you can make one if you want
• Maximum 43 percent debt ratio (this varies by lender, some go as high as 50 percent)
• Stable income and employment for the last 2 years
• Proof of your VA loan eligibility (obtain your Certificate of Entitlement)
• Proof that you’ll occupy the property as your primary residence

VA loans don’t require annual mortgage insurance, even with no down payment.

USDA Loans – A Loan for Rural Homebuyers

The USDA offers a great program for low to moderate-income buyers in rural areas. Fortunately, the USDA’s definition of rural is looser than most of us imagine. Homes just outside the metropolitan area often qualify and borrowers don’t need a down payment.

Eligible borrowers are those with household income below 115 percent of the average income for the area. Check your eligibility here. If you’re eligible, you’ll use only the borrower and co-borrower’s (if applicable) information to qualify for the loan.

Qualifying for a USDA loan:

• 640 credit score or higher
• No down payment required, but you can make one if you want
• Maximum 43 percent debt ratio (this varies by lender, some go higher)
• Stable income and employment
• Proof that you can’t secure any other financing option including FHA loans
• Proof that you’ll occupy the property as your primary residence
• Proof that the home is ‘average’ for the area

USDA loans, like FHA loans, require annual mortgage insurance for the life of the loan, but the amount charged is lower than any other loan program.

Proving your Qualifications

If you have the qualifications for a loan program, you must prove it. All loans have the same requirements:

• Last 30 days of pay stubs
• Last 2 years’ W-2s
• Last 2 years’ tax returns if you’re self-employed or your income is more than 25 percent commission
• Last 2 months of bank statements
• Proof of employment (verbal or written, varies by lender)
• Proof all collections, public records, or past due accounts are settled or in a payment arrangement (this affects your debt ratio)
• An appraisal from an approved appraiser that is at least as much as the purchase price

Which Loan is Right for You?

Before you apply for a loan, look at your qualifications. We recommend doing this at least 6 months before looking at homes. If there are issues with your credit (check your credit here) or you don’t have enough money saved, you have time to fix things.

Report any credit report errors to the credit bureau and fix any errors that are your fault (late payments, high credit card balances, etc.). Check your liquid assets and determine if you have a large enough down payment. If not, figure out if you’ll have gift funds, can borrow from your 401K, or need more time to save.

No two borrowers have the same borrowing needs or solutions. Go through the options and see which program speaks to you the most. We’re here to help you sort through your options too. Buying a home and finding the right financing is a big job, but when done right can lead to the home of your dreams.

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