New mortgage rules meant to protect consumers from bad lending practices may have another impact - forcing home buyers to get their financial house in order.
Borrowers' income, assets and debt will have to be verified by lenders before they're approved for home loans under new rules from the Consumer Financial Protection Bureau. If borrowers can't afford the loan payments, they won't get the loan.
Even before the recession six years ago, home buyers would have been smart to get their personal finances in order before shopping for a loan. It's now becoming more important.
"The first thing you must do is take a step back and take a realistic and pragmatic view of your financial condition," says Edward J. Achtner, a senior vice president and regional executive for Bank of America for Northern California and Oregon.
Talk with your tax and financial advisers, and to your real estate agent and others who have bought a home before, and if needed, to debt counselors, Achtner says.
Here are four ways to get your personal finances ready before applying for a home loan:
Get a credit report
Do this six months to a year before buying, recommends Richard Whitman, vice president of mortgage lending at Texas Trust Credit Union in Arlington, Texas. A credit score of 740 or more should equate to a better loan interest rate and less money down, possibly as low as 3% down, Whitman says. A minimum score of 620 will be needed to get a loan.
"Obviously the better the credit score, the more favorable the terms," he says.
Checking your credit score by getting a free credit report months before buying a home will give you time to improve it and check for inaccuracies. Take that time to pay off debt, and don't apply for new credit and be sure to pay your bills on time.
"Time passing is one of the best cures to credit" problems, says Cyndee Kendall, regional sales manager in Northern California for Bank of the West.
Because lenders must now verify a borrower's income, you'll need to have all of the income you report on tax returns reported in a loan application. This is one of the times where you don't want to write every possible tax deduction off to show that you have zero income, Whitman says.
Continuity of income will also be verified, so your employer will be contacted to confirm you have a steady job. If you have a job that pays commission and your income fluctuates, you may have to be in the job longer, Whitman says.
The two-year rule for credit and job history will help a borrower show steady income and good credit, Kendall says.
"They're definitely going to have to explain the last two years of their life, as far as their credit and their earning history," she says.
Have some cash
A bank doesn't want all of your income going toward a mortgage - up to a third for the monthly mortgage, insurance and taxes for the home - but wants to see that you have some cash set aside, Achtner says.
Such assets can include a savings account, retirement fund, or monetary gifts. The money can be used as a down payment, and for an emergency fund if you lose your job or something needs to be fixed on the house.
Bank statements for 60 days will be needed, Kendall says. If the money has been in an account for more than 60 days, Whitman says, then the bank doesn't need to know where the money came from, such as a gift or bonus at work.
You'll need a down payment of 3.5% to 20%, but will still need some cash afterward to qualify for a loan, Whitman says. A lender is looking for reserves to cover the expenses of owning a home, such as appliances and a lawn mower, he says, though you don't want to dip into those cash reserves too much to buy things for a new home.
Know what you qualify for
Three months before buying a home, research and understand your mortgage options, Whitman recommends. Determine how long you plan on living in the home so you can determine if you should get a fixed rate or adjustable rate loan.
Talk to financial advisers to get an idea of how much of a loan you qualify for. Once the loan process starts, you may qualify for more than you expected, which doesn't necessarily mean you should buy a larger, more expensive home with higher mortgage payments, Kendall says.
"We may approve a number that they're not financially comfortable with," she says.
Buying a home can be a long process, but a prepared homebuyer can help move it along and can act more quickly when a home they want comes on the market.
"Today's homeowner is far, far more prepared," Achtner says.
Getting your finances in order can be a daunting process, but it shouldn't be if done months before applying for a home loan.
"It's just making sure that you're financial house is in order long before you put your name on a contract," he says.