It’s no secrete that mortgages get denied. This can be rather depressing after being excited about the decision to buy a home, and then having your dreams get denied! Here are the top 3 reasons why mortgages are denied and how to overcome such hurdles.

1. Not Enough Income/DTI

Not having enough income is the number 1 reason for mortgages being denied. Simply put, people don’t have enough money. Perhaps a person wanted to buy a house but were denied for this very reason. Banks have an obligation to lend money to those who can reasonably afford the payments. In fact, there are laws that the banks must follow when lending money for most mortgages. This helps people from purchasing a home with a mortgage they will have difficultly paying back.

Mortgages are complex and the bank uses several calculations to determine the risk involved in lending money. The main calculation used to determine if a home buyer can afford a certain mortgage amount is called the debt-to-income ratio (DTI). This is the buyers (monthly reoccurring debt + monthly mortgage payment) / gross monthly income.

Example:

Monthly debt
Monthly Car payment – $300
Credit card payment – $25
Student loan payment – $75
Monthly mortgage payment – $1600
Total monthly debt: $2000

Gross monthly income: $5000

DTI:  2000/5000= .4 or 40%

In this example, a person’s monthly reoccurring debt payments are 40% of their gross monthly income. Most mortgages allow a maximum DTI of 43%. In some cases where a large down payment is made and the client has lots of assets, a DTI of 50% may be allowed. These DTI restrictions tend to work in peoples favor, especially those who are not money conscious. It helps prevent home buyers from going into foreclosure or being “house poor”.

How to overcome

You can help your chances of qualifying (even qualifying for more) by having a larger down payment, earning more income, paying off current debt, and even cancelling a few credit cards. A good loan officer will continue to work with you even if you are denied for a mortgage. They can handle the more complicated calculations and the benefits of them. Not all factors that make up the DTI are created equal. The most common being credit cards.

Recall the minimum monthly payment that is required by the credit card company. Many credit cards will have a $25 – $100 minimum payment when a balance is carried over from the previous month. The catch is even if someone does not carry a balance on their credit cards, (paying off credit cards in full every month), the minimum payment still counts towards the monthly reoccurring debt. Having a ton of credit cards, even if paid off, will limit your buying power tremendously.

Example:

A person has 4 credit cards. Even if there is no balance on these credit cards, they owe no money, the total monthly debt with have to add in the minimum monthly payment to the debt-to-income ratio.

Monthly debt
Monthly Car payment – $300
Minimum credit card payment 1 – $25
Minimum credit card payment 2 – $50
Student loan payment – $75
Minimum credit card payment 3 – $50
Minimum credit card payment 4 – $100
Monthly mortgage payment – $1600
Total monthly debt: $2200

Gross monthly income: $5000

DTI:  2200/5000= .44 or 44%

This person would be denied for a $1600 mortgage amount using the standard 43% debt-to-income rule. However, by closing a couple of credit cards it would lower the monthly debt and then the person could qualify for the desired loan amount. Depending on the interest rate, by closing a credit card that has a minimum monthly payment of $100 can not only be the difference between being qualified or denied for a loan, but can also increase a persons buying power by $25,000 or more!

A good loan officer will do their best to strategize to qualify a person for a desired amount. Cancelling unused credit cards is one of many tactics. If the loan officer has not suggested this, ask them if it is an option.

2. Poor Credit History

The second most popular reason for mortgage denial is a poor credit history. Many factors can take place for this denial reason such as a bankruptcy, multiple late payments of credit cards, collections that are reported to the credit bureaus, lack of credit history…etc. We live in a culture where a good credit score is viewed as a dire importance.

There are many misconceptions regarding credit scores. An unfortunate misconception is a person who is under impression they must pay interest on their credit cards in order to get a better credit score.  That is, carry a balance from month to month and pay the 20.99% interest rate. There are many other fallacies. But let’s look at how to overcome being denied for poor credit history.

How to overcome

If you are denied for poor credit history you are able to write the financial institution that denied you and ask for the credit scores that the decision was based on. Obtaining a free copy of the credit report to see if there are any mistakes will help. Sometimes something small, like a medical bill that was already paid but is reporting as a collection, can still show on a credit report and cause the reason for the denial.

To help solve these problems consider using a credit repair company. Credit repair companies can contact the credit bureaus on your behalf and solve certain situations without you having to go through the hassle. With their help they can also come up with a plan for you to increase your credit score, which ideally will get you a better interest rate when applying again for a mortgage.

3. Collateral

Being denied for collateral reasons simply means the house is not worth the price that it is being sold for. No bank will lend more money than what a house is worth. This why homes that are bought with a mortgage have an appraisal done on them. The appraiser does an analysis and determines the fair market value of the home. If you and the seller agree on a purchase price of $220,000, but the appraised value is $200,000, the bank will only give you a loan pertaining to the $200,000.

In such a scenario one of three things will occur:

1) The buyer comes up with $20,000 out of pocket to cover the difference in value
2) Further negotiations continue between the buyer, seller, and real estate agents to come to an agreement
3) The buyer finds a different home

How to overcome

This is where having a good real estate agent comes into play. Ideally they will have an accurate fair market value of a home. They will also be an excellent negotiator to get you the best price possible.

Realize banks have problems too!

Part of the problem why many mortgages are denied is because they are unfair in the first place. This is why the debt-to-income ratio receives is the #1 reason for mortgage denials. When a bank overcharges on their interest rates it increases customer’s DTI’s, not because customers deserve the higher interest rates, but because the loans are unfair to begin with. Some banks are more fair than others when it comes to lending money.

Obtaining a mortgage review is the best way to make sure you do not overpay for your next mortgage. Learn more.