Over the past few weeks I have had a number of meetings with first time home buyers together with their mortgage broker, to discuss what they can be pre-approved for. During these meetings I have discovered a common denominator. Most people trying to get into home ownership have no idea what it takes to qualify for a mortgage. The reality is that many people go into meetings with a mortgage broker or bank with high hopes of qualification only to leave with heartache. There is more to qualifying for a mortgage then having the income to be able to make the payments. They find they just don’t have the necessary credit needed by today's lenders to be approved for a mortgage. They leave with homework to build their credit and improve their credit scores but such homework will usually take 6 months to a year to complete. In that time the market can change drastically. What you could afford last year is now way out of your league.
HOW TO BUILD YOUR CREDIT TO QUALIFY FOR A MORTGAGE
Buying a home is one of the biggest financial decisions of your life and too many people are very uninformed when it comes to what it take to become a home owner. Many first time home buyers are easily frightened by the uncertainty of the whole process and a lack of education in what you need to get a mortgage with the whole home buying process creates anxious, stressed and skeptical buyers. Knowing what you need to be able to purchase your first home should be an essential life skill taught in high school along with how to write a resume and find a job, how to file your taxes and navigate government services websites, but sadly they are not. With education future home buyers can plan ahead and build up not only the funds but the credit needed to qualify for a mortgage. I am hoping this article will help educate new potential first time home buyers and prevent the heartache of delayed home ownership.
The government is on this big hype about ensuring that the general public does not pile on personal debt. They have changed the rules and regulations on lending practices to make it harder for the public to qualify for a loan and accumulate debt. They say they are doing this to help protect people and look out for our interests, however they have now made it harder for the average person to build up the needed credit to qualify for a mortgage.
At the age of 18 many teens acquire their first credit card. This is the first step in building good credit. Unfortunately many teens are careless with their first credit cards and tend to rack them up to the point of no return. I wish there was someone who had guided me away from this mistake when I was a teen. This is a prime example of ‘bad’ debt. Managing your first credit card is one of those essential life skills that need to be taught to our young adults to better set them in the right direction towards prosperity.
Unfortunately many people believe that having a credit card means they have credit. Yes it is the first step to developing your credit, however it is not enough for lenders to determine your credibility to borrow money. Today's lenders require two different avenues for the borrower to show their ability to borrow funds and make required payments. Borrowing on your credit card is good, however the amount borrowed each month varies as do the monthly payments. Lenders want to see that you are able to borrow funds with set payment amounts with a set payment date. They want to ensure that you can make your scheduled payments for a regular period of time.
You don’t need to run out and get a large car loan, this can be done with small loans of $1,500. However if you are a teen or in your early twenties, and you have a parent who has offered to help you purchase a car by gifting you or loaning you the money, it would be better for you to use that opportunity to build your credit by still getting a loan through a financial institution, whether your parents need to co-sign or not, and using your parents funds to pay it off over a period of 6 months to a year.
**An important thing to know is that a line of credit from the bank is actually a hit against you and does not help you build your credit. Regardless if you have borrowed funds from your line of credit or if you haven’t touched it at all, the full amount of the line of credit is determined to be accumulated debt, and will be used against you when determining your TDS. TDS RATIO (Total debt service ratio): The percentage of gross annual income required to cover payments associated with housing and all other debts and obligations, such as car loans and credit cards. ** Your TDS is used to determine how much money the lenders feel comfortable loaning you based on your income v.s your other financial obligations.
A small loan must be done at a financial institution or loan center and can not be from a relative or friend. Some options are rent-to-own furniture stores, small car loan or bank loan. Don’t think you need to go out and purchase something just to better your credit. If you are able to get a small loan from a bank, take those funds and put them into a high interest savings account. Make your regular payments and pay off the loan within 6 months to avoid as much interest charges as possible. After that loan is paid off, go and get another one and repeat.
Another thing to be careful of is making sure that all past debts are paid in full. If you have a debt against you for say an old phone bill pay it off in full 30 or more days before you apply for a mortgage. It will take approximately 30 days for the debt to be cleared from your credit report.
**Be very careful about not letting your debts go to collections. A bad debt sent to collections will take 6 years to be removed from your credit report.**
If we taught our young people how to build and maintain their credit at a young age, just think how much better they would be in the future. Its never too late to plan for your future. Young people can still go out and party it up while planning for tomorrow. Its all about balance and it is our job to guide our children towards a bright future.
By: Sarah Hill
- January 29, 2015
CENTURY 21 Infinity Realty Inc., Brokerage*