Taking a mortgage is similar to marriage and sometimes it will be around for much longer compared to a spouse. Both you and the company are looking for a long term partnership that, at the end of the day, should be a win-win situation. Unfortunately, like in marriage, there are gold diggers and naives, scammers and unstable partners.
The four most common mistakes that you can make when taking a mortgage can be summed up as no stability, no credibility, lack of financial education and no curiosity. By learning about each of these mistakes you can make the most of your equity, prevent losses and keep a sustainable payment schedule that also allows you to enjoy the comfort of your home.
1. No Stability
Banks and mortgage companies look for stability markers and coherence in the financial behavior of the lenders.
Don’t change jobs
They appreciate a person that has continuity at the job, with progressive salary increases, demonstrating hard work and the ability to repay. The best option before applying to a mortgage is to consolidate your job or even get a raise. Don’t change jobs, as usually most lenders require at least a 2 year history with the same employer and avoid going to a commission based remuneration, as this could affect the amount approved. In the case of recent graduates, you are in luck if your job is in high demand or is known to be subject to high salary increases, but be sure to consider the impact of remaining student loans on your final debt.
Don’t buy new stuff
Before closing your mortgage deal it is a bad idea to make any major changes in your life, such as getting a new car, applying for a new credit to get furniture for your future home, as all these moves can seriously affect your credit scores. This is explained by the change in the debt-to-income ratio on your credit report.
Don’t get credit or close credit cards
Not even paying and closing your credit cards is considered to be a good idea, as this moves two major FICO indicators: the amounts owed and the length of the credit history. The best idea is to leave things as they are. Pay your debts on time and postpone major investments such as furniture and appliances until after you have already bought the house.
2. No Credibility
Grow your FICO score
The most widely used measure of your credibility is the FICO score, composed from your payment history, the amount owed, the length of your credit history, new credit and other factors. It becomes obvious from this description that credit is a necessary evil to get more debt.
If you have never had loans before, it is difficult to assess the ability to manage your finances and pay on time.
Put a solid down payment
Another credibility issue is related to the amount you are prepared to put forward for this goal, the down payment. A small or inexistent down payment shows little risk from your part and throwing the problem in your lender’s arms translates into a high interest rate. Be sure to have at least 20% in cash or deposits (ranging from $40K up to $198K) if you are not eligible for some of the exemptions such as VA, navy or rural development programs. Studies show that the bigger your initial investment, the more likely you will pay off your debt, making you a sure investment, worthy of a low rate.
Beware of “no docs” and exotic loans
Some people chose the “lite docs” loans that require a substantial down payment (40%) and 1 year’s worth of principal, interest, taxes and insurance, but the rate is consistently higher than that offered by traditional mortgages. Beware of so called “predatory loans”, a generic name for any loan that has unnecessary commissions or is stretched over a longer amortization period, generating sometimes an amount of interest almost matching the principal. Other exotic products include reverse mortgages for seniors or interest-only mortgages which are based on the perspective of a salary growth over the years.
3. No financial education
Live beyond your means
Probably the worst mistake people make is to become home poor as they buy their (first) house. A great financial advice to take from self made billionaires is to always live below your means, and although that is harder to achieve when you don’t earn at least six figures, it certainly gives you both peace of mind and a great credit score.
Cut junk fees
Learn to budget, get used to read the fine print of every financial document you sign, ask a lot of questions and take time to think about the offer, don’t give in to the selling pressure. Learn what makes up your APR (annual percentage rate), which includes the mortgage rate but also other fees, commissions, points. The most important aspect that you should know is that some of the fees, such as the origination fee, maintenance and other, can be negotiated or waived. Ask your lender to cut fees or make you a better offer.
Assess family finances
If you intend to involve your spouse in the home buying process, have a financial date and get your spending and numbers right. Sometimes it is a good idea that the mortgage belongs just to one member of the family and the other one retains the opportunity to take on other credits, such as those for furniture, appliances or a new vehicle. Sometimes it’s a good idea to leave off the mortgage application the spouse that has a less than perfect credit score, even if that means a lower amount.4. No curiosity
The biggest mistake when applying to a mortgage is to go to only one provider and take for granted what it gives you. Be curious, use search engines, compare rates, use a simple Excel sheet to make simulations of what you will pay and assess the true cost of what you are signing up to. Try to see what you would really pay for using different providers and different products. Use a calculator and instead of the interest rate use the APR to have an accurate representation.
Check credit scores
Also be curious about your financial situation and check your credit reports with all 3 major companies (Equifax, Experian and Trans Union) for free once a year before even thinking about applying for mortgage. Review each piece of information in detail and file complaints about any problem, as it might show on your credit score.
After you are sure your credit score is as good as it gets, pre-approve your credit. Remember, there is a difference between a pre-qualification and a pre-approval. The pre-qualification gives an estimate of your borrowing capacities, while the pre-approval is a tailor made solution which takes into consideration your specific situation.
In conclusion, when shopping for a mortgage loan try to get in vendor’s shoes and think like a bank underwriter. Who would you do business with? What kind of warranties would you consider acceptable? How much risk would you take? How much credit would you give yourself in repaying the amount? How trustworthy do you present yourself to a stranger?