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Two Key Factors in Qualifying for a Home Loan
When a lender makes a decision about a mortgage application, they consider two basic factors:
your ability and your willingness to repay the loan.
Ability to repay the mortgage is determined by verifying your current employment and analyzing
your total income. Lenders prefer for you to have been employed at the same place for at least
two years, or at least be in the same line of work for a few years. Your proposed monthly
payment will be compared to your monthly gross income and your monthly credit payments to
see how much you can afford.
Willingness to repay is influenced by how you have paid previous loans and by examining how the
property will be used. Willingness can be gauged by your credit report and previous commitment
to rent or utility bills. There is also a greater tendency to stick with your payments if you
live in a house as opposed to a rental property or vacation home.
It is important to remember that there are no set rules and each applicant is handled on a
case-by-case basis. Many applicants come up a little short in one area, but make up for it
with other strong points. These compensating factors may include a large down payment, solid
employment, extensive educational background or overall financial health.
For applicants who need to make a lower down payment, mortgage insurance is protection for the
lender in case you stop making payments. This allows low and moderate income families become
homeowners with low down payment programs.
What Makes Low Down Payment Loans Possible?
Simply put, mortgage insurance protects the mortgage company against financial loss if a
homeowner stops making mortgage payments. Mortgage companies usually require insurance
on low down payment loans for protection in the event that the homeowner fails to make
his or her payments. When a homeowner fails to make the mortgage payments, a default
occurs and the home goes into foreclosure. Both the homeowner and the mortgage insurer
lose in a foreclosure. The homeowner loses the house and all of the money put into it.
The mortgage insurer will then have to pay the mortgage company's claim on the defaulted
loan.
For this reason, it is crucial that the family buying the home can really afford it, not
only at the time it is purchased, but throughout the time period of the loan.
Although the cost of the mortgage insurance is paid by the home buyer, or borrower, the
mortgage insurer works directly with the mortgage company. Mortgage insurance is available
to commercial banks, savings and loans, and mortgage bankers, all of whom offer mortgage loans
to home buyers.
Remember that mortgage insurance is not the same as credit life insurance, also called
mortgage life insurance. This type of policy repays an outstanding mortgage balance upon
the death of the person who took out the insurance policy.
The Secondary Market
The mortgage company's decision to use mortgage insurance is driven by the requirements of
investors in the mortgage market. Because of the losses that could occur, major investors
require mortgage insurance on all loans made with low down payments.
The three primary investors in home loans are Federal National Mortgage Association (Fannie
Mae), Federal Home Loan Mortgage Corporation (Freddie Mac) and Government National Mortgage
Association (Ginnie Mae). By purchasing and selling residential mortgages, Fannie Mae and
Freddie Mac help keep money available for homes across the country.
Unlike Fannie Mae and Freddie Mac, Ginnie Mae does not actually buy mortgages. It adds the
guarantee of the full faith and credit of the U.S. Government to mortgage securities issued
by mortgage companies.
The Two Choices: Government Insurance and Private Insurance
Now that we have explained how mortgage insurance works and why it is necessary, let's look
at the basic kinds of mortgage insurance. Low down payment mortgages can be insured in two
ways -- through the government or through the private sector. Mortgages backed by the
government are insured by the Federal Housing Administration (FHA), the Department of
Veterans Affairs (VA) or the Farmers Home Administration (FmHA).
Although anyone can apply for FHA insurance, the other two government mortgage guarantee
programs are much more targeted. The VA program is limited to qualified, eligible veterans
and reservists. This program is very specialized, so contact your mortgage professional for
the details. The FmHA insures loans for the construction and purchase of homes in rural
communities.
Obtaining conventional financing is the alternative to obtaining a home loan backed by
the government. Conventional mortgages are all home loans not guaranteed by the government,
including those guaranteed by private mortgage insurers.
Although government and private insurance are based on the same concept of allowing families
to get into homes with less cash down, there are many differences between the two. Often,
your mortgage professional will play an important role in suggesting and deciding which
insurance is selected.
Home buyers must make a down payment of at least 5% of a home's value to be considered for
private mortgage insurance. However, under some special programs, the down payment
requirement allows the buyer to use a gift or grant to cover 2% of the 5% down payment
required by private mortgage insurers. The gift or grant may come from a friend, relative,
community group or other organization.
Private mortgage insurance is available on a wide variety of home loans and there is no
pre-set limit on the loan amount. Although differences such as these may affect whether
the mortgage company prefers to work with government or conventional mortgages, your
mortgage professional will discuss which one would be better for your situation.
With the wide variety of loans available, home buyers have the freedom to choose the type
of loan that best suits their needs. Early on in the home buying process, it is a good
idea to meet with several companies to compare the types of mortgages they offer and shop
for the best price and terms. Best of all, working with a mortgage insurer can be very
easy, whether your loan is insured by the FHA or a private mortgage insurance company,
because your mortgage professional handles all of the arrangements.
By making lending money to home buyers safer, mortgage insurance helps more families get
into homes of their own.