- What is a real estate loan?
- 10 steps to qualify
The first step in buying your dream home is learning about the ins and outs of real estate loans.
A real estate loan,which is also referred to as a mortgage, is commonly used by homebuyers to finance real estate. When approved, borrowers sign a legal document (known as a mortgage note) that promises to repay the loan, with interest and other costs over a period of time. A real estate loan is generally one of the least expensive ways to finance a home. Still, it can also be one of the more intimidating processes a beginner homebuyer undertakes.
Even when seeking real estate investment loans, it’s crucial to understand the importance of preparation. The process of applying (and being approved) for a mortgage loan can be both time-consuming and complex, as it requires an immense amount of time, paperwork, and patience to complete. However, there are a few preliminary tasks homebuyers can do to make the process smoother. Read through our guide below to learn how to get a real estate loan today.
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What Is A Real Estate Loan
A real estate loan is financing used to purchase a property, and there are several types available to aspiring homeowners and real estate investors alike. Each loan type will come with different approval requirements, interest rates, and terms. It is crucial to investigate the options available to you before deciding on one. Pay attention to the terms of each loan type to make sure you choose the right one for your situation. While real estate loans most commonly refer to traditional mortgages, there are actually several ways to finance a property.
Commercial vs. Residential Loans
There are different loans available depending on whether the property is residential or commercial real estate. Generally speaking, commercial loans are for much higher amounts than residential loans. Investors are typically required to have a low loan-to-value ratio, often in the range of 60 to 80 percent. With residential properties, borrowers can have a much higher LTV depending on the lender. Commercial loans are for shorter periods than residential; commercial loans last from five to 20 years, while residential loans often last for 30 years. Interest rates also tend to be higher with commercial loans, though this can vary from lender to lender. Remember to note these differences as you consider investing in different property types.
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Real Estate Investment Loans
A real estate investment loan refers to financing used to purchase an investment property rather than a primary residence. While there are a few loans that cannot be applied to investment properties, investors have access to many financing options. Additionally, investors may have more freedom to choose options with higher interest rates or shorter loan terms, depending on the performance of a given deal. Here are a few types of real estate investment loans to look into:
- Traditional Loans: Traditional loans, or mortgages, are granted by banks and other lending institutions. These loans typically have approval standards based on your personal financial history, and they often fail to take future rental income into account. With traditional loans, investors must put 20 percent down on a property (or pay private mortgage insurance).
- Private Money: This loan type refers to investors lending capital to other investors. The incentive for providing a private money loan is to earn money through interest as it is paid back. This setup is common among real estate investors because the approval timeline is often quicker (and in some cases more relaxed) than other financing options.
- Existing Home Equity: Another option available to investors is to tap into their existing home equity. This can be done through a home equity loan, a home equity line of credit (HELOC), or a cash-out refinance. Each of these three options has slightly different approval requirements and loan stipulations, but they essentially operate the same. Investors who use these loan types are essentially able to tap into their existing equity to purchase another property.
- Qualifying Investment Loans: There are also financing options available to investors who meet certain requirements or who are willing to purchase property in certain areas. These loan types include the VA loan, USDA loan, 203k loans, and more. While these options are not available to everyone, there are certainly worth looking into as they can offer several favorable loan terms. To learn more about qualifying investment loans, be sure to read this article.
Hard Money Loans For Real Estate
Hard money loans in real estate are a good option for investors hoping to secure access to financing without going through a lengthy approval process. Unlike a traditional real estate loan, hard money loans are secured by collateral (rather than a borrower’s ability to repay). This means if the borrower were to default on loan payments, the lender would sell the asset—in this case, a property. Hard money loans have high interest rates and typically only last from one to five years. However, they remain an attractive option for real estate investors hoping to secure short-term real estate loans.
Crowdfunding Real Estate Loans
Crowdfunding real estate loans allow investors to finance deals using smaller contributions from multiple potential lenders. Crowdfunding transactions are typically completed online and can be done using several social media platforms. The appeal of crowdfunding a deal is that it allows real estate investors to expand their network while also utilizing a nontraditional finance option. Crowdfunding real estate loans also allow investors to promote their businesses, as they are marketing the success of given deals. If you want to learn more about real estate crowdfunding, be sure to check out this infographic.
Real Estate Bridge Loans
Bridge loans, otherwise known as gap funding, are temporary financing options secured by an investor’s existing property. They can be used to buy new real estate before the previous property sells. This setup allows investors or homebuyers to “bridge” the gap from one property to another without worrying about simultaneously selling and buying. There are a few drawbacks to bridge loans, particularly that they can be more expensive than utilizing other loan options. Borrowers will also be responsible for payments on their existing mortgage or loan, in addition to the bridge loan.
How To Qualify For A Real Estate Loan In 10 Steps
The road to homeownership starts with financing, as this will determine everything from your budget to timeline when it comes to buying a home. Luckily, there are a few steps aspiring homeowners can take in advance to get the process started. Read through the steps below to learn how to qualify for a real estate loan:
1. Check Your Credit
The first step to obtaining a real estate loan begins with checking your credit. The process includes pulling your credit report to evaluate where your credit score stands, as this three-digit number is a necessary ingredient to borrow money from a traditional lender.
“Credit scores are a crucial component of the home buying process, impacting everything from the size of a mortgage payment to the interest rate on a home loan,” said Senior Vice President for TransUnion, Ken Chaplin. “People with subprime credit may face financial barriers to homeownership, making it difficult for their dream home to become a reality.”
Several credit scoring models have their own evaluation systems. FICO, the most common scoring model, will analyze a credit score in points, with a range of credit scores: bad credit (300 – 600), poor credit (600 – 649), fair credit (650 – 699), good credit (700 -749), excellent credit (750 – 850). The calculation of a credit score will typically consist of five major factors:
- Payment History = 35 percent
- Outstanding Balances = 30 percent
- Length of Credit History = 15 percent
- Types of Accounts = 10 percent
- Credit Inquiries = 10 percent
A low credit score won’t automatically disqualify you from a home loan or real estate deal, but it will affect several key factors of your loan, including the size, mortgage rate, and access to certain loan programs. A quality credit score is a great asset for homebuyers and one they can continuously work to improve.
2. Perform A Credit Audit
Once you’ve pulled your credit report and confirmed your credit score, it’s now time to perform a credit examination. This process is essentially taking a highlighter to your credit report to outline what you did right, where you went wrong, and noting how you can improve. This step is commonly carried out in the beginning stages of applying for a home loan, as it can sometimes take weeks, months, and even years to make the necessary adjustments.
3. Dispute Inaccuracies, Late Charges & Negative Information
Now comes the time to fight inaccuracies on your credit report. Because negative information can adversely affect your chances of securing a real estate loan, it’s critical that homebuyers not only review their credit report but examine and verify everything is correct.
Homebuyers seeking to dispute inaccuracies are recommended to contact both the credit bureau and the company that provided the information to the bureau. Under the Fair Credit Reporting Act, these two entities are responsible for rectifying inaccurate or incomplete information on your credit report. In most cases, this can be completed in two steps:
- Step One: Contact the credit bureau and inform them of the information you believe to be incorrect. Along with providing your complete name and address, this should include identifying each item in your credit report you dispute, explaining why you dispute the information, and a request for correction. This should also include copies of any related information to your dispute.
- Step Two: Contact the appropriate creditors and explain you are disputing the information they provided the bureau. This also includes sending copies of documents that support your position.
4. Pay Off Debt
Another element to obtaining a real estate loan is debt-to-income. Lenders will comparehow much you makeversus how much youspend to determine how much youcan reasonably afford. In most cases, lenders will not approve a homebuyer if their debt is more than 36 percent of their income, with some lenders requiring more stringent debt-to-income ratios. There are generally two types of debt-to-income ratios that lenders look for:
- Front-End Ratio: This relates to housing costs, including the percentage of income that goes towards the expense.
- Back-End Ratio: This ratio reveals how much a potential homebuyer’s income goes to debts, such as credit card bills, car payment, child support, student loans, and other debt.
When preparing to apply for a real estate loan, thebest thing ahomebuyer can do is reduce the amount of money they owe. Reducing the balances on credit cards or other financial obligations will help to lower the percentage of your income that goes towards paying monthly debt. In essence, this will helpfree up credit, including the amount of money you can borrow.
5. Determine What You Can Afford
A common mistake homebuyers make in the beginning stages is looking for the home they desire rather than what they can comfortably afford. While lenders will have lending guidelines in place to determine the amount of money you can borrow, it’s also important that buying a house makes financial sense for you and your family. That said, potential homebuyers must consider both their current (and future) finances when getting started. In some cases, renting may be a better option compared to buying, so it’s important to compare the costs of renting vs. buyingto gain a better understanding of where you stand.
6. Gather Work History
Employment history is another important factor in obtaininga real estate loan. Generally speaking, lenders will want homebuyers to have at least two years’ history with a company, but it’s not absolute. Lenders will consider several factors, including if you were in school, military service, or switching career fields.
The purpose of gathering work history is to verify you have a reliable source of money coming. Lenders are essentially determining your risk level, including whether or not you have the ability to make your monthly payments.
7. Assemble Income Information
Similar to work history, another component to securing a real estate loan is verifying your income. Homebuyersshould assemble their income information, including pay stubs, tax returns, bank statements, brokerage statements, work contracts, and other documentation to verify their source of income. This step is crucial to determining how much you can afford and confirming that you can make your monthly payments.
8. Down Payment
The next step in applying for a real estate loan is the down payment. The amount a homebuyer pays—somewhere between three percent and 20 percent of the home’s price—will depend on a combination of factors, including credit and financing. Loan-to-value ratio (LTV) is another aspect that lenders look at. This ratio, which compares the value of the home with the value of the loan, is used by lenders to assess the amount of exposed risk they’re taking on with the mortgage. For example, a low LTV ratio would create higher mortgage payments each month, as you have less equity ownership in your home.
Asidefrom the down payment, homebuyers will also need extra fundsto pay for closing costs and other obligations in the home buying process.Additionally, it’s important that potential homebuyers avoid opening up any new lines of creditduring this process, as it can affect your chances of being approved.
9. Compare Lenders
The second-to-final step in securing a real estate loan comes down to simply comparing your options. Whether that entails researching lenders or asking friends and family, you must take the time to examine your choices, as each lender will handle different types of loans. Remember, not all lenders offer the same loans, so homeowners need to conduct their due diligence when buying a home, especially when finding a lender.
10. Get Pre-approved, Not Pre-Qualified
The last step to obtaining a real estate loan is getting pre-approved. This process differs from getting pre-qualified, which does not require access to your financial information. Getting pre-approved lets lenders run your credit and review your finances. Its important potential homebuyers understand the difference between pre-approval and pre-qualified, as one will provide a much more accurate estimate of your potential loan amount. By taking the time to meet with lenders and review your personal finances, you can increase your chances of landing your dream home (or investment property).
The road to securingreal estate loans is no easy task.That said, arming yourself with the necessary information and knowledge and preparing your documentation in advance will help assist potential homebuyers in homeownership. Pay attention to the different options available to you, and then follow the steps above. If it seems intimidating right now, don’t worry: the process will get easier with each deal you land.
What is your number one tip for getting a real estate loan? Drop a comment with your best advice below.
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In a mortgage loan process, there are six phases: pre-approval, shopping for house, the mortgage application, processing the loan, underwriting and then the closing. Here's an in-depth explanation for each step.
The Underwriting Process of a Loan Application
One of the first things all lenders learn and use to make loan decisions are the “Five C's of Credit": Character, Conditions, Capital, Capacity, and Collateral. These are the criteria your prospective lender uses to determine whether to make you a loan (and on what terms).
- Your credit. ...
- Your income and employment history. ...
- Your debt-to-income ratio. ...
- Value of your collateral. ...
- Size of down payment. ...
- Liquid assets. ...
- Loan term.
Unless you have a few hundred thousand dollars in cash handy, getting approved for a mortgage is a critical part of purchasing your new home. The mortgage approval process can take anywhere from 30 days to several months, depending on the status of the market and your personal circumstances.
You can usually get a feel for whether you're mortgage-eligible by looking at your own personal finances. You'll have the best chances at mortgage approval if: Your credit score is above 620. You have a down payment of 3-5% or more.
In general, it should take about 30 days from accepted offer through the date your loan closes. As a reminder, this is just a general timeline; the process can be faster or slower. There may be circumstances that change your timeline.
Once you clear any conditions and get your mortgage approved, your home purchase is almost complete. The final step is closing day, which is when the lender funds your loan and pays the selling party in exchange for the title to the property.
The time it takes to go from conditionally loan approval to final approval can be a matter of days or weeks depending on your situation. However, there are some factors that will influence your time until closing after conditional approval. For one, you should contact your lender to figure out their timeline.
The 20/10 rule says your consumer debt payments should take up, at a maximum, 20% of your annual take-home income and 10% of your monthly take-home income. This rule can help you decide whether you're spending too much on debt payments and limit the additional borrowing that you're willing to take on.
Let's discuss what underwriters look for in the loan approval process. In considering your application, they look at a variety of factors, including your credit history, income and any outstanding debts. This important step in the process focuses on the three C's of underwriting — credit, capacity and collateral.
Your underwriter needs to know that you have enough income to cover your mortgage payments every month. To prove this, you need to provide three types of documents to verify your income: W-2s from the last 2 years, your two most recent bank statements and your two most recent pay stubs.
- Credit score and credit history. A good credit score and credit history show lenders that you pay your credit obligations on time. ...
- Income. ...
- Monthly debt payments. ...
- Assets and additional applicants. ...
- Employer's contact information.
Lenders look at your credit score, income, ongoing EMI's, occupation, age, and repayment history, which evaluating an application for a personal loan.
In short, they're looking for someone who is likely to repay the loan. Put another way, they want to find a borrower who has the lowest possible risk of defaulting. If a lender deems you to be a low-risk borrower, then you are more likely to have your mortgage application approved.
When it comes to mortgage lending, no news isn't necessarily good news. Particularly in today's economic climate, many lenders are struggling to meet closing deadlines, but don't readily offer up that information. When they finally do, it's often late in the process, which can put borrowers in real jeopardy.
Even if you receive a mortgage pre-approval, your loan can still be denied for various reasons, such as a change in your financial situation. How often does an underwriter deny a loan? According to a report, about 8% of home loan applications get denied, depending on the location.
After you're preapproved, you receive a preapproval letter as evidence that you have a lender that has already verified your assets. The letter is typically valid for 60 to 90 days. However, it can be updated with reverification of the information.
The big three C's – Credit, Capacity, and Collateral – are really the drivers how lenders determine who gets a loan, how much they'll loan, and what the interest charge will be. But the lending institution looks at some other factors as well.
Mortgage approvals since January 2018. Approvals have been high for both conventional and specialist mortgage products. The IMLA says specialist mortgages have a slightly higher approval rate at 91%.
Can a mortgage loan be denied after closing? Though it's rare, a mortgage can be denied after the borrower signs the closing papers. For example, in some states, the bank can fund the loan after the borrower closes. “It's not unheard of that before the funds are transferred, it could fall apart,” Rueth said.
Lenders want to know details such as your credit score, social security number, marital status, history of your residence, employment and income, account balances, debt payments and balances, confirmation of any foreclosures or bankruptcies in the last seven years and sourcing of a down payment.
Does receiving a Closing Disclosure mean the loan is approved? The loan is approved prior to a lender issuing a Closing Disclosure. However, you'll want to make sure your credit, income and debt are in check during this timeframe until the transaction is finalized.
Underwriters deny loans about 9% of the time. The most common reason for denial is that the borrower has too much debt, but even an incomplete loan package can lead to denial.
Mortgage lenders have different 'turn times' — the time it takes from your loan being submitted for underwriting review to the final decision. The full mortgage loan process often takes between 30 and 45 days from underwriting to closing.
When you receive conditional approval on a mortgage, it actually makes a stronger case for your application than prequalification alone. However, it is not a guarantee your mortgage will be approved. Instead, it means the lender is willing to loan you a specific amount of money if you can meet certain criteria.