What the lenders look for -- and
how you can use that information
that Fannie Mae has let the Desktop Underwriter cat out of the bag,
what should borrowers know about it? For starters, the system considers
14 factors when evaluating a mortgage. Some are related to the parameters
of the desired loan while others pertain to the borrower. They are:
- Equity (the appraised value or sale
value of the home minus the loan amount)
- Credit history (as measured by the
FICO credit score)
- Liquid reserves (the amount of liquid
assets, such as cash left in a checking account, after the loan
closing divided by the monthly mortgage payment)
- Total debt-to-income ratio (the amount
of monthly debt payments for the expected mortgage, existing car
loans, credit cards, etc. divided by gross monthly income)
- Borrower's work status (Is the borrower
salaried or self-employed?)
- Loan term (How many years will the
loan be on the books?)
- Rate and payment structure (Does it
have an adjustable rate or balloon payment?)
- Number of units (Is the borrower buying
a two-unit property and renting out one of them, e.g.?)
- Co-op, condo or attached (Is the borrower
purchasing a condominium or house, e.g.?)
- Funds from other parties (Is much
of the down payment coming from mom?)
- Loan purpose (Is it for a home purchase
or refinance? If it's a refinance, is cash being taken out at
closing? If so, how much?)
- Number of borrowers (How many people
are on the application?)
- Prior bankruptcies or foreclosures
- Prior mortgage delinquencies
top three factors
Of these factors, Fannie Mae says that the three most important
are equity, credit history and liquid reserves. The system considers
a loan better if the borrower has more invested in the transaction
via a higher down payment. It also likes borrowers who have managed
finances well and have a fair amount of money left over in the bank
after closing because that provides a cushion against default risk.
Some of the remaining factors are self-explanatory.
The system considers someone who was 60 days late on a mortgage
payment within the past two years and a borrower who filed for bankruptcy
in the past as riskier.
Others are a little less clear. If a lot of
down payment money comes from someone else, for example, it's not
necessarily bad. But borrowers who put hardly any of their own money
into the transaction, or those who receive assistance in the form
of a personal loan from their parents rather than as a gift, might
be considered riskier.
For things such as loan term, the systems consider
a 30-year fixed rate mortgage less risky than an adjustable rate
mortgage. That's because borrowers default less frequently on stable,
long-term loans. At the same time, 15-year mortgages are considered
less risky than either because they default even less frequently
than 30-year ones.
Employment history can be looked at in a couple
of ways as well. A Freddie Mac spokesman points out that Loan Prospector
looks at consistency of earnings, rather than just how they're made.
So, a contractor who has been in business for several years might
score just as well as someone who has worked for six companies in
With loan purpose, there's nothing better or
worse about a straight refinance loan. But if somebody is taking
cash out at closing such that the loan-to-value ratio rises too
high, the system might raise a red flag. The same goes for a borrower
who buys a multi-unit property with the intent of renting out part
of it. While there's nothing wrong with doing so, there might be
problems if the consumer couldn't make the mortgage payment without
the rental income.
One last thing: Having a coborrower on the application
can improve the prospects for approval somewhat.
Consumers should remember these are just guidelines.
The systems compare application data in such a manner that strength
in one area can compensate for weakness in another, too. Don't assume
that you won't qualify just because you're getting a few thousand
dollars in down payment assistance from your parents.
Randy Johnson, a Newport Beach, Calif. mortgage
broker who wrote How to Save Thousands of Dollars on Your
Home Mortgage, remembers one borrower who wanted to refinance
her home loan about a year ago. A Christian schoolteacher, she didn't
make much money and was stuck with a total debt to income ratio
of around 55 percent. But the loan was for only about $105,000 on
a $400,000 home. Along with that low loan-to-value ratio, she had
money in the bank and a stellar bill-paying history. As a result,
the automated underwriting system approved the loan.
So once the systems run their computations, what happens next?
Both agencies respond to applications in one of three ways; the
following three answers come from Desktop Underwriter:
- Approve -- The agency will most likely
buy the loan because it shows little risk of default.
- Refer -- The loan needs to be reviewed
by a human underwriter to clear up data questions, but it may
very well be purchasable.
- Refer With Caution -- The mortgage
doesn't look like it will pass the test, so a human underwriter
has to review it.
Even if you think you're all set, there are
instances where Fannie Mae's system will give a loan a refer rating
no matter what. This happens when:
- The borrower's debt to income ratio is "unusually
high?" The agencies won't clarify what that means, but they do
say the ratio would have to be much higher than the 36 percent
to 38 percent level that some lenders consider risky.
- The borrower has less cash in the bank than
is needed to close. If Joe has $8,000 to buy a house and he pays
$4,000 in closing costs and $4,000 as a down payment, everything's
peachy. But if closing costs were $5,000, the system would refer
- A bankruptcy or foreclosure appears on the
credit report with no date known.
- The borrower declares either of those problems
but the credit report doesn't have a record of it.
Armed with this information, consumers can go
into their lenders' offices knowing what might trip them up.
A self-employed borrower who is getting down
payment money from the parents to buy a duplex with an adjustable-rate
mortgage may want to consider a longer-term rate lock, for example,
because closing will likely take a while. Somebody with hardly any
cash reserves may want to consider saving more money, too, rather
than waste time and money applying for a loan they may not get.
At the very least, lenders say, consumers should familiarize themselves
with what they're being graded on before they take the test.