Peter G. Miller
Finding out how much you can borrow with a conventional mortgage to buy or refinance a home is both science and art. The answer will vary according to the lender you chose, underwriting standards, your financial history, the type of loan you seek, the business climate at the time you apply, and the exceptions that a lender might be willing to make to obtain your business.
A conventional loan is traditionally defined as a fixed-rate mortgage with equal monthly payments, a 15-year or 30-year term, and a fixed interest rate established when the mortgage is created.
A conventional mortgage can also be defined in terms of its loan to value ratio or LTV. An 80 percent LTV is the standard for conventional loans, a percentage which means that if a house costs $300,000, the lender will provide financing worth $240,000 (80 percent of the purchase price) and the borrower will put up $60,000 (20 percent). Closing costs are EXTRA AND ADDITIONAL above the $60,000.
Private Mortgage Insurance
Since most people do not have 20 percent down to buy a home it follows that there has to be a way to get a conventional loan without the need to pay so much cash up front. There is. Buyers can finance with a conventional loan plus private mortgage insurance (or "MI"). By using MI borrowers can often buy with as little as 5 percent down plus closing costs.
It used to be that there was one set of loan limits which applied nationwide in the continental US and higher limits in Alaska, Hawaii, Guam and the Virgin Islands. Those days are gone. Today we have a complex conventional loan limit system which depends in large measure on the county where you live.
So-called "jumbo" mortgages are simply loans where the amount financed is greater than the conventional loan limit for a given area. Borrowers typically pay a somewhat higher rate for jumbo financing, so it's good to stay within the conventional loan limit when possible.
How Much Can You Borrow?
Lenders qualify borrowers in part on the basis of their income. In general terms, with fixed-rate conventional mortgages no more than 28 percent of your gross (pre-tax) monthly income can be used for housing costs such as mortgage principal, mortgage interest, property taxes and property insurance (PITI). As much as 36 percent of your income can be used for PITI plus recurring bills such as credit card payments, auto loans, etc. These numbers are sometimes expressed as 28/36.
Let's imagine that you have two household members with a combined income of $90,000 annually or $7,500 per month before taxes. Under general conventional qualification standards, the buyers would be allowed to spend as much as $2,100 on housing costs (PITI) and as much as $2,700 for all regular monthly debt.
The front and back ratios for fixed-rate conventional mortgages are more conservative than the ratios used for other loans. Given the same income you can borrow more with an adjustable-rate mortgage or with loans insured by the FHA or VA. Of course, you can REALLY borrow more if you get a toxic loan but that's not a good idea.
A plain vanilla, fixed-rate conventional loan is the same as every other plain vanilla, fixed-rate conventional loan. What may not be the same is the cost: Different lenders can and will change different combinations of interest and points so it pays to shop around and compare rates. One of the best ways to compare loan offers is to ask lenders to provide a quote with "par" interest -- the rate with zero points.
How To Apply
In recent years the loan application process has been greatly simplified, however proper information from borrowers is still required. Most lenders today are looking for fully-documented loan applications. This may sound intimidating, however it's not a big deal. Just take these steps:
- At least three months BEFORE you finance or refinance real estate get a copy of your credit report. The reason to do this is to check and see if there's any information on your credit report which is factually incorrect or out-of-date (most negative items can stay on a credit report for seven years, 10 years for a bankruptcy). If you start looking at your credit report three months ahead you should have some time to correct errors. You can get a free credit report with no strings attached by going to AnnualCreditReport.com.
- Get your paperwork in order. Have in hand your last three pay stubs, your last three tax returns, and statements for all savings and checking account, mutual funds, retirement accounts, credit cards, student loans, car loans, etc. Make a file and stick the paperwork in it. You want to show ALL income and you must show ALL debts. When in doubt add it to the file.
- Ask some questions: Do you expect to receive "bonus" income now or in the future? Do you expect to receive "overtime" income now or in the future Will "other" income in addition to your salary continue at current levels? If you own your home and use it as a prime residence, what's the estimated fair market value? What's the value of all financing now secured by your current home if you're refinancing?
Because it's tough to sell home these days in many markets, some owners are willing to pay some or even all buyer closing costs. Lender rules generally allow so-called "seller contributions" of as much as 3 percent to 6 percent of the purchase price to help offset closing costs, depending on the amount you put down. A seller contribution may be used to offset various closing costs however you must always provide your downpayment in cash. Speak with your real estate broker and lender for specifics.
Gifts are allowed under the most conventional loan programs and gifts may be used to cover some or all of the downpayment. A "gift letter" from the donor will be required. This is a letter which says the money given is really a gift and that no repayment or interest will be sought. Speak with lenders for specifics.
___ You do NOT need a co-borrower to apply for a mortgage. However, the additional income represented by a co-borrower may allow you to obtain a bigger mortgage.
___ If you own rental property, lenders will generally add back the depreciation deducted each year on "improvements" such as a house, but not stoves, clothes washers, etc.
___ You are NOT required to disclose the receipt of alimony, child support payments or separate maintenance to a lender. However, disclosure of the additional income represented by such payments may allow you to borrow a larger amount.
___ In addition to the minimum down payment, you may and are likely to have other closing costs as well. Such additional costs can include prepaid expenses, points, mortgage insurance premiums paid in cash, non-realty expenses, taxes, title insurance, transfer fees, settlement charges and miscellaneous costs. Always obtain a Good Faith Estimate from any lender who offers you financing. This government-mandated form outlines the loan-related costs you will be required to pay at closing.
Peter G. Miller is a nationally-syndicated columnist who appears in more than 100 newspapers. If you need objective information regarding real estate buying, selling or foreclosures, stop by Mr. Miller's website, OurBroker.com, one of the most comprehensive consumer sites online.
Copyright 2009 Peter G. Miller. All rights reserved.