What Is Underwriting? A Quick Guide
Carey Chesney6 minute-read
January 12, 2022
Getting a mortgage is a critical part of buying your next home. After all, unless you are paying cash, you aren’t going to be able to get the home without a loan. When you get preapproved for a loan, the house shopping begins, and you have a good sense of what you can afford.
Once you get an offer accepted, the real work begins on your loan. You might hear your lender say, “we need to send this to underwriting for final approval” and immediately wonder what they’re talking about.
Here we’ll cover what underwriting is and how to make the process go smoothly so your mortgage will be approved.
What Is Underwriting A Loan In Real Estate?
Loan underwriting is the final part of securing your funds to complete a real estate transaction. Essentially, it’s a complete diagnostic of your financial health intended to ensure you can afford to pay back the loan you are about to receive. This behind-the-scenes part of the home buying process won’t involve you directly but will affect you considerably. Your lender will generally handle this without you (the borrower) being involved unless more documentation is needed. The documents they acquire from you to review all have to do with making sure you can afford the home you are interested in purchasing.
Speaking of documentation, it’s important to get that to your lender as soon as they ask for it. The underwriting process involves many moving parts and lending professionals. Making sure you get your loan approved in time to close on your home means getting them everything they need in a timely manner so you don’t hold up the process.
Explaining The Mortgage Underwriting Process
As previously mentioned, there’s a lot involved in the real estate underwriting process. Overall, it is basically an evaluation of your financial history and present. This includes, among other things, how much money you have, how much debt you have and how you’ve managed your finances.
It also involves making sure the home you are buying is worth the sales price so they know they can get their money back by selling the home if you don’t pay your mortgage. The four major areas underwriters look at are credit, appraisal, income and assets.
Your credit score is one of the most important factors underwriters look at when it comes to home loan approval. This is an indicator of how good you are at paying back debt, how much overall debt you have and how that amount relates to your income (also known as the debt-to-income ratio, or DTI).
For a conventional loan, you should have a credit score of at least 620. For a Federal Housing Administration (FHA) loan, the minimum score is 580. Veterans Administration (VA) loans do not have a minimum credit requirement (or a minimum down payment) but some lenders might require a certain score.
To determine your debt-to-income (DTI) ratio, take the total amount of money you spend on bills and other expenses each month and divide that by your pretax monthly income. Most lenders will want your DTI ratio to be below 50%.
Lenders want to make sure the home you are buying is worth what you are paying in case they need to sell it to recoup their loan. Makes sense, right? This also protects you because it ensures you aren’t borrowing more than the home is worth.
Your lender hires an appraiser to walk through the property, review recent sales in the area and get an overall sense of how hot the local real estate market is. Then they will take all this information and give an exact value of what they think the house is worth.
If the value is determined to be at or above the sales price, everything moves along as planned. If the property is appraised to be lower than the asking price, things get a little sticky. Your loan approval is paused and the gap between the sales price and the appraised price needs to be addressed.
One option is to negotiate with the seller and have them bring down the sales price to the appraised value. The other option is to come up with cash to cover the difference between the sale price and the appraisal amount (also called covering the appraisal gap).
Lenders need to ensure you have the necessary income to cover your monthly mortgage payments after you have come up with the cash for your down payment and closing costs. That’s why they verify your employment right before the closing to ensure there hasn’t been a loss of income during the home sale process.
You will need to provide them with your W-2s from the last two years, your two most recent pay stubs, and your two most recent bank statements. If you are self-employed, you will need to show them several different documents including your most recent tax returns from the last few years.
Your assets like savings, personal property and stocks are also key factors when determining how big of a loan you can be approved for. This is because if you default on your payments your assets can be liquidated to cover the loan balance.
Your assets can also be used to ensure you can cover the down payment and closing costs while still having enough to make your monthly mortgage payments.
What Does A Mortgage Underwriter Do?
Now let’s review what a mortgage underwriter does to evaluate your qualifications as a home buyer as part of your mortgage process:
- Research your credit score and history: The underwriter will examine your credit history and your credit score
- Start the appraisal: This involves scheduling the appraiser and determining payment. Some lenders will pay this for you or roll the cost into your loan and others will have you foot the bill upfront.
- Verify your income and employment: Using the previously mentioned documents, the underwriter will make sure you are sufficiently employed and generating income.
- Check your debt-to-income ratio: The underwriter confirms the DTI ratio you have self-reported with all the necessary documentation.
- Evaluate your down payment and savings: The underwriter makes sure you have sufficient savings to cover your down payment and closing costs.
- Gather information about your assets: The underwriter will need a complete understanding of what assets can be sold in case you default on your mortgage.
What Steps Are Involved In Underwriting?
Understanding what steps happen when during the underwriting process will make you prepared for what to expect. Here are the different stages of a mortgage loan underwriting, in chronological order:
- Mortgage application
- Details about income, assets and debts
- Purchase agreement
- Title search
Tips For Getting Your Underwriting Approved
That last step – “decision” – likely stood out to you as the moment of truth. Well, it is. Fear not though, as there are several things you can do in the time leading up to the underwriting process to ensure you get approved. They are:
- Get preapproved: This makes the steps for final loan approval that much easier because they already have much of the information they need.
- Present an accurate snapshot of your finances: This isn’t the time to be coy. Be honest upfront, because eventually, everything will come out anyway.
- Avoid applying for new credit during underwriting: Don’t mess up that DTI ratio during the process, as it might jeopardize your loan approval.
- Respond to requests for more information promptly: Always get the underwriter the information they need right away. You don’t want your loan to get denied because you stalled the process.
- Ask lots of questions: If you don’t understand something, speak up. It’s a complicated process and you want to make sure you are completely in the know.
What Does The Underwriter’s Decision Mean?
There are three possible outcomes once the underwriter has completed their work. The loan is approved, denied or suspended. Here’s a look at what each decision means:
- Approved: You can proceed with your lender and real estate professional to close on the property.
- Denied: The sale cannot go through. Work with your lender to get more details about how to get approved next time.
- Suspended: Your application might be missing information needed to make a decision. Ask to reopen the application after you have the information required.
The Bottom Line
Underwriting is a complicated process, but it’s essential for getting you in the home of your dreams. Having a good understanding of the process will set you up for success as you embark on the journey of finding your next house. Ready to find your new home? Visit the Rocket HomesSM Home Buyer’s Guide.
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