Lenders – What Are They Looking For?

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During the home buying process, if you have any financial skeletons in your closet expect them to come out. Lenders typically look at the “four Cs” of credit when reviewing your application. The four Cs of credit are capacity, credit history, capital and collateral. So be prepared to discuss or show proof of everything from past bankruptcies to alimony payments to credit blemishes and everything else in between. The individual lender has its own requirements but the process generally starts at the credit rating and works backward from there. The better your credit then the less “other” documentation you’ll have to show. At a minimum, you’ll need to produce the same information you did for the preapproval then sit back and wait while the lender sifts through it. Also be prepared to come up with additional documentation such as proof of additional income, statements that show certain accounts were paid off even though it doesn’t reflect that on your own credit report and tax returns for the last two years if you are self-employed.

Lenders make sure that before giving you cash to buy your home first and foremost you are financially capable of paying for the home, the homeowner’s insurance and property tax payments and second, you are not a credit risk based on your past credit history with other lenders and debtors. To determine these things the lenders will examine the key aspects of your finances which are; your “Assets and Resources” which is anything of monetary value that you own including real property, personal property and enforceable claims against others such as bank accounts, stocks and mutual funds; and they will also examine your “Liabilities” which are your financial obligations including long-term and short-term debt as well as any other amounts that are owed to others such as credit cards.

Here is a description of the “four Cs” of credit that the lenders will look:

Capacity

It is the borrower’s ability to repay a debt. A lender will look at two basic ratios to determine your capacity: the housing-to-income ratio and the total-debt-to-income ratio. The first compares monthly mortgage expenses which is the payment of principal and interest, taxes and insurance also known as PITI to your gross monthly income. The second ration compares total monthly debt payments which includes PITI and obligations like car payments and credit card payments to your monthly income.

Credit History

It is the measure of willingness to make timely payments on debts as illustrated by the borrower’s credit history. The lender will review one or more credit reports to determine whether you qualify for a loan and ultimately what interest rate you will pay on that loan.

Capital

It is the measure of how much cash or assets readily converted into cash – such as stocks, bonds, certificates of deposits – the borrower has to make a down payment, cover closing costs and handle other incidental expenses such as moving expenses, utilities and necessities like furniture. Lenders like to see that after paying such expense, borrowers retain enough cash to pay two months of mortgage payments.

Collateral

It is the value of any assets that you pledge as security for a debt. For example, when you request a mortgage, the value of the property serves as a guarantee that the lender will get its money back. So lenders will typically lend only a percentage of the total property value (loan-to-value or LTV ratio).

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