Got turned down for a mortgage to buy a new home or refinance your current home? You’re not alone. It's a very common experience, especially with bigger
lenders and banks. Banks & big lenders typically employ less experienced loan officers --who make loan qualifying mistakes based on lack of experience & knowledge. They often do a poor job anticipating road blocks to loan approval as well as understanding how to find
solutions--and struggle to communicate it all in an easy to understand way. They work in a
"lots of cooks in the kitchen" assembly line system, where they are responsible for only the loan application stage while a half dozen other coworkers move the loan through a complicated process. The end result in this assembly line system is lack of cohesive communication, lost documents and a buyer repeatedly explaining their questions over and over again to the next person in the chain.
The sad truth is--once these bank and big lender loan officers gain the type of experience & knowledge to be very good in the biz, they become frustrated with their
lack of control in this "loan factory" and move on to greener, better paying opportunities where they have far more influence on the loan's outcome.
Many turned-down applicants – especially those who have been declined by banks & big lenders, should search for and discuss their situation with an experienced loan officer who will take the time to understand & work to overcome the reasons for a loan turn down.
The first step is to figure out why you were turned down. I'll list the most common denial reasons below.
Capacity -- debt-to-income ratio (DTI) or employment related reasons (by far the most common loan denial reason)
Collateral (property characteristics or value)
Capital - Insufficient cash (for down payment or closing costs)
Debt to income ratio (DTI) or Capacity
DTI is the percentage of provable, qualifying monthly income a lender uses during the underwriting process compared to monthly debts a home buyer has. These debts are the total of minimum monthly payments as shown on the credit report or monthly billing statements---- as well as the total new mortgage payment (PITIA) - principal & interest, monthly property taxes, monthly home insurance, and and -if applicable, HOA monthly fees. Loan programs have 2 DTIs --except on VA -- a lower one for housing and an overall DTI which includes the housing ratio as well as the other credit debts.
Some common mistakes some loan officers commit is to not factor in certain credit debts like deferred student loans (they still count) as well as family obligations like child support or alimony, especially those not listed on the credit report. Occasionally there will be a repeating deduction on the buyer's bank statements for other credit debts not on the credit report--such as an IRS tax payment plan. Missing any of these can be a problem.
Accurately calculating monthly qualifying income is the number one reason many loan officers screw up, resulting in an underwriter -a week or two later- correcting and reducing the amount used by the loan officer when they originally preapproved the buyer. Calculating lender usable income correctly is so complex even many experienced loan officers make mistakes. And when these mistakes are made, and an underwriter lowers income, a home buyer with a DTI right at the limit for a loan program now has a DTI to high to maintain the loan approval.
DTI limits vary for different loan programs, but here are some basic ideas on what the max is. The higher a buyer's credit score along with a larger down payment will typically allow for higher DTIs in the automated underwriting process (AUS).
Conventional --housing 40% and overall 50%. The less risk to a lender in a transaction, the higher the allowed DTIs will be.
FHA--more lenient --housing DTI into the low 40's and overall as high as 55% or above. Many lenders will cap DTI at 50% and some at 55%.
VA --has one ratio --even above 50%, however some lenders will cap the DTI on VA.
USDA -- the most restrictive of the loan programs. Housing DTI 35% with overall DTI 45%. Marginally qualified buyers with lower credit scores will struggle to obtain loan approval at these max DTIs.
Credit history
Credit score is the most important factor, however there are some factors in addition to credit scores to be aware of.
Credit scores are provided by the 3 credit bureaus, Experian, Equifax, and Transunion. These scores can vary since not all creditors report to all bureaus and some creditors don't report as frequently thus each burau has different data. Lenders use the middle of 3 scores --of the loan applicant with the lowest score -- or the lower if 2 scores are being used. The higher the credit score the more likely a loan will be approved as well as higher DTIs accepted. Higher credit scores get better loan pricing as well--something I'll discuss in another article.
Where loan officers can make mistakes underwriters later catch is misreading the credit report and the AUS findings, along with the existence of derogatory credit events like BK, past foreclosure, pre-foreclosure, deed in lieu, judgments, and tax liens that sometimes don't appear on credit reports. These can be uncovered when underwriting does a deep dive into an applicants overall financial history. Underwriting obtains more detailed reports than a credit report, like Fraud Guard or Lexis Nexis that can reveal some of these derogatory items. A very experienced and very aware loan officer can often see indications during the loan application stage and ask some probing questions that can reveal these issues--and possibly find solutions to keep the loan approval on track.
Collateral (property characteristics or value)
We all know how a low appraised value can complicate a transaction. Where many loan officers make errors is in understanding property type, value & comps. With experience it's much easier to spot an overvalued home or one that has some unique characteristics that make it difficult to appraise. Loan programs have different rules for unique property types like condos, manufactured homes, and commercial or farming activities on the property. Knowing these rules and how to navigate each loan program is vital to a successful closing.
Another area to be aware of is buyer occupancy. For example, buying a second/vacation home a few miles away from the buyer's current primary residence is an underwriting problem. Buying a replacement primary home while keeping the current home as a rental or future sale has a unique set of rules for each loan program that needs to be met to be successful. Lender underwriter's are on the lookout for buyer's who might misstate their true intentions on occupancy--and experienced loan officers will take the time to have a conversation with a buyer and their agent if any red flags on occupancy are present. Better to handle it now that in underwriting a few weeks down the road.
Capital (funds for down payment and closing costs)
Providing a home buyer and their agent with accurate numbers for all buyer funds needed is crucial. Understating the amount of funds needed is a common
problem mistake made by loan officers who are less experienced or lazy. Nothing worse than a buyer not having enough funds to close.
Another area loan officers make mistakes --not reviewing a buyer's bank statements for recent deposits that are out of the ordinary. All buyer funds must be documented to come from an acceptable source--and this documentation is often easy to obtain at the application stage but becomes a bit more difficult and time consuming to obtain much nearer to closing.
Gifts from acceptable sources are common in home purchases, however documenting the acceptable source and flow of funds is slightly different for each loan program. Not doing this early on can cause delays and issues with loan approval at the underwriting stage.