Qualifying For A Mortgage: What You Need To Know

Qualifying for a mortgage can be intimidating, especially for first-time homebuyers. The requirements vary based on the type of home mortgage loan you're applying for. Conventional loans are the most common loan type, but they have stricter qualification requirements compared to government-insured loans. FHA loans, for example, are popular with first-time homebuyers as they have more lenient credit score minimums and allow for a down payment as low as 3.5%. Your credit score, down payment, income, employment history, and debt-to-income ratio are all factors that lenders consider when determining whether you qualify for a mortgage.

Credit score

Your credit score is a key factor in determining whether you'll qualify for a mortgage in Nebraska and the rate you'll pay. A credit score is a number that reflects your overall credit history, which is based on information in your credit report, including whether you pay your bills on time and your total debt. Credit scores generally range from 300 (the lowest) to 850 (the highest). A higher credit score increases a lender's confidence that you will make payments on time and may help you secure lower mortgage interest rates and fees. It can also lead to reduced down payment requirements.

Most mortgage lenders use FICO scores, and they typically look at scores from the three major credit reporting agencies (Equifax, Experian, and TransUnion), using the middle score to decide on the rate to offer. It's important to check your credit report and correct any errors, as these can reduce your score and lead to a higher interest rate. Your credit score may be negatively impacted if you have too many credit accounts or open many new accounts in a short period. However, requesting your own credit report or having existing creditors check your report should not hurt your score.

In Nebraska, there is no general income limit for first-time homebuyers, and the state offers various resources, loans, and assistance programs for low-income buyers. The median sale price for a single-family home in Nebraska was $275,000 in the first three quarters of 2024. The minimum down payment depends on the type of loan. Nebraska also has first-time homebuyer assistance programs that offer loans, grants, tax credits, and down payment assistance. For example, the Homebuyer Assistance Program (HBA) provides a first and second mortgage to help with down payment and closing costs, while the Welcome Home Assistance program caters to both first-time and repeat buyers.

When applying for a mortgage, it's important to consider that mortgage rates can change frequently and are influenced by various factors, including the housing market, the economy, and consumer demand. You can take steps to improve your credit score before applying for a mortgage, such as paying bills on time, reducing credit card debt, and avoiding opening or closing credit card accounts. Additionally, locking in a mortgage rate can provide financial certainty and protect you from unexpected changes in your monthly payments.

Down payment

The down payment is the money a buyer pays upfront to complete the real estate transaction. The down payment amount depends on several variables, including the house price and loan type. The higher the down payment, the less the buyer will need to borrow to complete the transaction and the lower the interest paid over the long term. A larger down payment can also result in a lower interest rate.

For a conventional loan, you’ll want to set aside 15-20% of a home’s selling price as the down payment, if possible. However, the down payment requirement is not solely determined by lenders. In many cases, the down payment requirement is set by the entity backing the loan, such as the Federal Housing Administration (FHA), Fannie Mae, Freddie Mac, or the Department of Veterans Affairs (VA).

Some lenders offer conventional mortgages with as little as 1% or 3% down. The average first-time homebuyer pays 6% of the home price as their down payment. On an FHA loan, 10% down can be the difference between paying mortgage insurance for the life of your loan or for the first 11 years. A 20% down payment is unrealistic for many buyers, and it is not a requirement for a primary residence.

Before you can get a mortgage loan, you’ll need to prove that you’re a capable borrower. Lenders will look at a variety of qualification criteria, including credit, income, assets, and debt-to-income ratio. It is important to examine your finances before you start looking for homes.

Debt-to-income ratio

Your debt-to-income ratio (DTI) is a critical factor in determining your eligibility for a mortgage. It represents the percentage of your income that goes toward debt payments, including mortgage payments, rents, credit card balances, and other loans. Lenders use this ratio to assess your ability to manage monthly payments and repay borrowed money.

Calculating your DTI involves dividing your total monthly debt payments by your gross monthly income (income before taxes and other deductions). The formula is expressed as DTI ratio = (Total monthly debt payments / gross monthly income) x 100. For example, a DTI of 25% means that 25% of your gross income is allocated to debt repayment each month.

Most lenders consider a DTI of 36% or lower as ideal. A lower DTI indicates a favourable balance between income and debt, making you a more attractive candidate for loans. It also increases the likelihood of loan approval and better interest rates. While a DTI above 50% significantly reduces the chances of approval, some lenders may allow up to 43%-45% in specific cases.

To improve your DTI, focus on reducing your debt and increasing your income. Additionally, consider your existing monthly payments, savings, and financial goals before committing to a mortgage. Understanding your DTI is crucial for making informed financial decisions and determining your comfort level with debt.

Lenders may also calculate two types of DTI ratios: the housing to income ratio (HTI) and the back-end DTI. The HTI is your monthly housing payment divided by your current income, excluding other debts. On the other hand, the back-end DTI includes all your monthly debt payments, such as credit cards, student loans, and car loans, in addition to your housing payment. The back-end DTI often carries more weight in lenders' decisions as it reflects your overall debt burden.

Loan type

The type of loan you choose will depend on your financial situation and goals. Here are some of the most common types of mortgages:

Conventional Loans

Conventional loans are the most popular mortgage option and are not guaranteed by any government agency. They are typically more difficult to qualify for than government-backed loans. Conventional lenders usually require a minimum credit score of 620, a down payment of at least 3-5%, and a debt-to-income (DTI) ratio of 45% or lower. However, some lenders may accept a DTI of up to 50% if you have a higher credit score and significant savings. Conventional loans also require private mortgage insurance (PMI) if your down payment is less than 20%.

FHA Loans

FHA loans are government-insured mortgages backed by the Federal Housing Administration (FHA). They offer more flexible guidelines for borrowers with limited down payment funds or lower credit scores. To qualify for an FHA loan, you typically need a credit score of 580 or higher and a down payment of at least 3.5%. If your credit score is between 500 and 579, you may still qualify with a down payment of at least 10%.

VA Loans

VA loans are government-backed loan programs available to qualified active-duty service members, members of the National Guard, reservists, and veterans. They offer competitive interest rates and do not require a down payment, making them an attractive option for those who qualify.

USDA Loans

USDA loans are another type of government-backed loan that does not require a down payment. These loans are designed to help individuals purchase homes in rural areas.

Adjustable-Rate Mortgages (ARMs)

Adjustable-rate mortgages have interest rates that may start lower but can fluctuate after the initial period. They typically require a higher minimum down payment of at least 5% compared to fixed-rate loans.

It's important to note that the loan type you choose will impact the minimum credit score, down payment, and DTI requirements. By understanding your financial situation and loan options, you can make an informed decision about which loan type best suits your needs and goals.

Employment history

Lenders typically require at least two years of employment history, but this does not necessarily have to be at the same job. For example, if you changed jobs from a staff accountant in the software industry to a staff accountant in the medical field, this would likely be considered acceptable by the lender. Additionally, if you have a degree in the field of your employment, this can also count towards your overall employment history.

If you have been with your current employer for less than two years, lenders will often request information about your previous employers and your line of work. They may also require additional documentation, such as a job offer letter, employment contract, W-2 forms, or pay stubs, to verify your income and employment stability.

It is important to note that shorter employment histories may be acceptable in certain circumstances. For example, if you have strong compensating factors such as a large down payment, excellent credit score, low debt-to-income ratio, or significant savings or assets, lenders may be more flexible with the two-year employment history requirement.

If you are self-employed, a contractor, or have variable income, lenders will still want to see a history of receiving income. They may require additional documentation, such as tax and financial statements, to verify that your income is stable and sufficient to make the mortgage payments.

Frequently asked questions