The Shocking Truth: What Can Go Wrong in Underwriting?

Underwriting, the process of determining whether a borrower qualifies for a mortgage, can be a nerve-wracking experience. Even after being pre-approved and finding your dream home, the underwriting process can derail your homeownership dreams. In this article, we’ll explore the shocking truth about what can go wrong during underwriting and how to navigate these potential pitfalls.

The Credit Score Conundrum

Your credit score is the single most crucial factor in determining your mortgage approval, and even a slight dip can spell disaster. Lenders typically prefer credit scores of 740 or higher, but even scores in the “good” range of 670-739 can face scrutiny. If your credit report has changed since pre-approval, with missed payments, new loans, or maxed-out credit cards, your loan could be denied.

To avoid credit score issues, make sure to:

• Use autopay services to ensure on-time payments
• Avoid applying for new loans or credit during underwriting
• Dispute any errors on your credit report

The Income Instability Trap

Lenders want to see a stable and predictable income stream, which is why a recent job change or period of unemployment can raise red flags. Even if your earnings are high, an irregular income as a self-employed individual or business owner can be problematic. Underwriters may interpret maximized write-offs and expenses on your tax returns as lower income, jeopardizing your approval.

To mitigate income instability concerns:

• Provide detailed financial statements and tax returns
• Explain any job transitions or gaps in employment
• Consider non-QM (non-qualified mortgage) loans for self-employed borrowers

The Debt-to-Income Ratio Roadblock

Your debt-to-income (DTI) ratio, which measures the portion of your income dedicated to debt payments, is a critical factor in underwriting. Most lenders require a DTI below 43%, with an ideal range around 36%. High student loan, car loan, or credit card balances can inflate your DTI and potentially lead to denial.

To improve your DTI:

• Pay down existing debts before applying
• Opt for a longer mortgage term for lower monthly payments
• Consider having a co-borrower with a lower DTI

The Down Payment Dilemma

Lenders scrutinize the loan-to-value (LTV) ratio, which compares the mortgage amount to the home’s appraised value. A higher LTV due to a smaller down payment can increase the likelihood of rejection. Conventional loans typically prefer an LTV around 80%, while FHA loans allow up to 96.5%.

To reduce your LTV:

• Save for a larger down payment
• Explore down payment assistance programs
• Consider a less expensive home

The Property Problem

Not all properties are created equal in the eyes of lenders. Condos, manufactured homes, or properties with structural issues can face additional hurdles during underwriting. Recent changes to condo loan rules by Fannie Mae and Freddie Mac have made financing these properties even more challenging.

To navigate property-related concerns:

• Research lender requirements for non-traditional properties
• Address any structural or repair issues before applying
• Be prepared to provide additional documentation or seek alternative financing options

The Financial Flux Factor

Lenders prize financial stability, and any unusual activity in your bank account or significant changes in your financial life can raise eyebrows. A short employment history, interruption in earnings, or large, unexplained deposits can send warning signals to underwriters.

To maintain financial stability:

• Provide gift letters for any down payment assistance
• Explain any job transitions or gaps in employment
• Avoid sudden, large deposits or withdrawals during underwriting

While underwriting can be a daunting process, being aware of these potential pitfalls can help you prepare and increase your chances of a successful mortgage approval. Remember, knowledge is power, and understanding what can go wrong in underwriting can help you navigate the process with confidence.