The Mortgage Process: A Step-By-Step Guide
Zina Kumok6-Minute Read
December 01, 2020
Buying a home is one of those things that sounds simple enough until you actually do it. Even if you have a strong foundation of financial knowledge, your first home purchase is almost always at least a little frustrating.
Much of that complexity lies in finding the right property and negotiating with the seller, but for many people the most frustrating part is the mortgage process. Shopping for a lender, getting preapproved, deciding on your preferred terms – it all has the potential to get complicated.
Thankfully, we're here to make things simple. Here's a step-by-step guide to navigating the mortgage process.
Before The Mortgage Loan Process
Estimate A Budget
It's easy to use your current rent payment to decide how much house you can afford, but buyers should also factor in the cost of maintenance, repairs and remodeling projects.
The size of the down payment will also determine how much you can borrow. 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.
Get Preapproved For A Mortgage
Preapproval means submitting your financial information to a lender who will run a credit check and determine how much and what kind of mortgage you qualify for.
While preapproval isn't required, it does 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.
Find A House
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 kids, consider the school district you're looking in as well.
Make An Offer
Once you find the perfect house, it's time to make an offer. Most experts recommend making 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.
Steps In The Mortgage Process
1. Apply For A Mortgage
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'll provide a loan estimate. This will include your interest rate, how much you can borrow and any fees.
2. Order A Home Inspection
Once you've submitted an offer on a home, you can schedule a home inspection. An independent inspector will tour the home's interior and exterior, looking for any safety issues, code violations and other problems.
Choosing a reputable home inspector is key, because you can use their findings to negotiate a lower price. If they find too many problems, you may decide to back out of the deal entirely.
3. Get An Appraisal
An appraisal determines the market value of your home and is a necessary step to securing a mortgage. 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.
A bank won't lend you more than the appraised amount, because it means they won't be able to recoup their money if you default and they’re forced to repossess the home.
4. Purchase 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 $1,200 a year on average.
5. Complete The Underwriting Process
The underwriter is the official lender employee who reviews your credit, income, assets and liabilities to finalize the 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.
6. Close On The Home
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 at closing, the home is officially sold.
Other Important Mortgage Terms To Know
Adjustable Rate Mortgage (ARM)
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, the most 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 has the same interest rate over the life 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 qualify for lower interest rates.
Debt-To-Income (DTI) Ratio
The debt-to-income ratio (DTI) is used by lenders to decide if you're financially prepared to buy a house. Lenders prefer a DTI of 43% and less, including the future mortgage payment.
You can calculate your current DTI by adding up all your monthly payments divided by your monthly gross income. If your DTI already exceeds 43% without a mortgage payment, you likely won't qualify for a mortgage.
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.
Refinancing a mortgage involves choosing a new lender for your loan, usually in exchange for a lower interest rate or decreased monthly payment. Many lenders still charge closing costs for a refinance, so it usually takes a few years to break even.
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 usually paid twice a year. The escrow company holds that money until the payments are due.
Earnest Money Deposit
When a buyer puts an offer on a house, they'll have to put down an earnest money deposit. This usually costs between 1 to 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.
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 .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 if you put down less than 20%. PMI generally costs between .5 to 1% 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, but can only 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.
Buying a home is a complex process, but following the steps outlined above should help you stay on the right path. Taking your time, trusting your gut and working with an experienced real estate agent can help you avoid most mistakes.
When in doubt, call your real estate agent or send them an email. Walking you through the process is part of what you're paying them for.
Table of Contents
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