The Mortgage Loan Process: 9 Steps You Need To Take Before Moving Into Your Dream Home
Zina Kumok6-Minute Read
November 08, 2021
At a glance, buying a home may seem simple enough – but the reality is a bit more complex. The mortgage process is both complicated and lengthy, and even if you have a strong foundation of financial knowledge, buying your first home is almost always a little frustrating.
Shopping for a lender, getting preapproved, deciding on your preferred terms – it all has the potential to become overwhelming. Thankfully, we’re here to make things simpler. In this article, we’ll take a step-by-step look at navigating the mortgage process and some key terms you should be aware of before you get started.
1. Estimate Your Budget
Before you do anything else, it’s important to determine how much house you can afford. A lender can tell you how much money you qualify for, but just because you qualify for a certain amount doesn’t mean you can afford it. To build your budget, consider all your monthly finances, from housing costs to energy bills, gas and groceries.
Your budget will ultimately depend on the size of your down payment – which plays a key role in determining how much money you qualify for as well as interest rates and loan terms. If you only have $5,000 for a down payment, the maximum you could qualify for is $142,857 with an FHA mortgage and $100,000 with a conventional mortgage.
2. Get Preapproved
A mortgage preapproval is helpful for many reasons. While a prequalification provides an estimate of your finances, a preapproval is more precise.
To be preapproved, borrowers submit their financial information to the mortgage lender, who then conduct a thorough investigation of the finances including a verification of income, assets and credit – so when you’re preapproved for a loan, you are guaranteed you’ll be able to obtain it, assuming your finances don’t change between now and then.
In addition to providing valuable peace of mind, preapprovals can increase the likelihood of having your offer accepted. Sellers are wary of choosing a buyer who isn’t preapproved because they don’t know if the buyer can actually qualify for a mortgage.
3. Begin The House Hunt
To maximize your time while house hunting, make a list of your must-have features and amenities. These may include a gas stove, a garage or a finished basement. Ask your real estate agent to filter out any homes that don’t have these requirements. If you have a family, or if you’re planning to start one in the future, consider the school district and crime rates in the area as well.
4. Make An Offer
Once you find your dream home, it’s time to make an offer. To determine a fair price, ask your real estate agent to run a comparative market analysis based on recent sales of similar homes in the area. Keep in mind that the state of the market will play a role in this – if you find yourself in a competitive seller’s market, you’re going to want to offer more than in a buyer’s market.
You also need to consider whether you should make a contingent offer, which means the offer is only valid if certain conditions are met.
For example, an offer contingent on an appraisal means that the buyer can walk away if the home is appraised for less than the offer. A mortgage appraisal means that the buyer can walk away if they fail to obtain the loan they need to purchase the home. Talk with your real estate agent to determine which contingencies may be worth including in your offer.
5. Apply For The Mortgage
Mortgage loan approval depends on several factors, from your credit score to your debt-to-income (DTI) ratio.
When you apply for a mortgage, you’ll have to submit proof of income and a list of financial assets and liabilities. You’ll have to show your W-2, tax return and bank and retirement account statements. Banks will often ask freelancers and independent contractors to provide multiple years of tax returns.
Once the lender has reviewed all the documents and run a credit check, they will provide a loan estimate, which includes your interest rate, how much you can borrow and any applicable fees.
6. Get A Home Inspection
Once you’ve submitted an offer on your dream home, it’s time to schedule a home inspection. A home inspection is a visual assessment of the property conducted by an independent inspector to identify any safety issues, code violations or other problems.
Choosing a reputable home inspector is key, because you can use their findings to negotiate a lower price. And if they find too many problems, a home inspection contingency will allow you to back out of the deal entirely.
7. Have The Property Appraised
An appraisal determines the market value of your home and is a necessary step to securing a mortgage.
The mortgage lender will not lend more than the appraised amount because it means they won’t be able to recoup their money if you default – so if the appraisal comes back lower than the sale price, either the buyer will have to make up the difference in cash or the seller will have to lower the price.
8. Buy Homeowners Insurance
Homeowners insurance is a requirement for getting a mortgage and is necessary to finalize before closing. Shop around with various providers and compare their premiums. Sometimes you can save money by bundling your car insurance with homeowners coverage. Homeowners insurance costs about $1,300 a year on average but varies among states.
9. Complete Underwriting And Closing
The underwriter is the official lender employee who reviews your credit, income, assets and liabilities to finalize the mortgage loan. The underwriter will often ask for additional verification. For example, if you made a large deposit last year, the underwriter may ask for more details.
The home closing process is when the buyer and seller meet with their real estate agents and a real estate lawyer to finalize the deal. The down payment and closing costs are due at closing. Once the paperwork has been signed, the home is officially sold!
Mortgage Terms To Know Before Getting Started
Even when you know the process, terms can pop up that might be a little confusing. Let’s take a look at common terms you could hear during the mortgage process and what they mean.
Adjustable-Rate Mortgage (ARM) Vs. Fixed-Rate Mortgage
An adjustable-rate mortgage (ARM) has a 30-year total term, and the first few years have fixed interest rates before switching to variable rates.
For example, one popular type is a 5/1 ARM. In this context, the first 5 years of the mortgage would have a fixed interest rate with fixed monthly payments. After 5 years, the mortgage would switch to a variable-rate loan, with annual interest rate changes for the remainder of the mortgage term.
A fixed-rate mortgage, on the other hand, has the same interest rate over the lifetime of the loan, unless the borrower refinances the mortgage. Payments generally remain the same but may vary slightly due to property tax changes.
Annual Percentage Rate (APR)
The APR is the interest rate of the mortgage, including all fees. The APR is determined by the current market rates and the borrower’s credit score. Those with higher scores will generally qualify for lower interest rates.
Debt-To-Income (DTI) Ratio
The debt-to-income (DTI) ratio is used by the mortgage lender to determine if you’re financially prepared to buy a house on top of your other expenses.
You can calculate your DTI by adding up all of your monthly debt payments divided by your monthly gross income. Lenders prefer a DTI of 50% or lower but specific qualifications vary by loan type. Regardless of the type of mortgage you’re applying for, the lower your DTI, the better.
The home’s title shows who legally owns the residence. Before you buy a house, the title company will run a title search to see if there are any other potential owners. This typically only becomes an issue if the property was previously bequeathed in a will.
Earnest Money Deposit
When a buyer submits an offer on a house, they have to put down an earnest money deposit. This usually costs 1% – 2% of the home price.
An earnest money deposit shows that a buyer is serious about buying the home. Often, the deposit can only be returned if a major problem is found during the inspection, like termites or a shaky foundation. If the buyer simply changes their mind about the house, the seller can keep the earnest money. If the sale goes through, the earnest money will be counted toward the down payment.
Before the mortgage is finalized, the earnest money will be held in escrow, which is like a neutral bank account. The escrow company keeps the money safe until closing.
After closing is finished, property taxes, homeowners insurance and PMI payments are also held in an escrow account until the respective payments are due. Homeowners insurance is paid once a year and property taxes are typically paid twice a year. The escrow company holds that money until the payments are due.
Discount points can be purchased upfront by the borrower to lower the interest rate. Each point costs 1% of the total mortgage and decreases the interest rate by 0.25%. Buying points is usually only worth it if you plan to stay in the home for several years.
Private Mortgage Insurance (PMI)
Private mortgage insurance (PMI) is added to your monthly mortgage payment and is required if you put down less than 20% of the home’s purchase price. PMI generally costs between 0.5 and 2% of the mortgage balance and can be removed once you reach 20% equity in the home. FHA loans have Mortgage Insurance Premium (MIP), which is similar to PMI. FHA mortgage insurance can be removed if you refinance the loan.
The mortgage term refers to the length of the loan. Most mortgages are available in 15-, 20- or 30-year terms. The shorter the term, the higher the monthly payments. Interest rates will be higher the longer the loan.
The Bottom Line
Buying a home is a complex process, but following the steps outlined in this article should help you stay on the right path. Taking your time, trusting your gut and working with an experienced real estate agent can ease your stress and help you avoid costly mistakes, so when in doubt, call your real estate agent or send them an email. After all, walking you through the process is part of what you’re paying them for.
If you’re interested in buying a home, take the next step and get started with an agent today!
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