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How An FHA Pre-Approval Works.

Article By : Patrick Mansfield | U.S. Consumer Finance
Mortgage Pre-Approval
Getting Pre-Approved for an FHA Mortgage

Rising real estate prices and historically low mortgage rates continue to fuel today’s housing market. FHA loans help moderate income buyers to own a home and possibly grow home equity over time. An FHA mortgage pre-approval can streamline the process of selecting and buying the right property for your financial situation.

Many prospective homeowners qualify for attractive down payment programs. In many instances, it is possible to purchase a property with just 3.5 percent down. To qualify for an FHA loan, the participating lender reviews your credit reports to understand how you’ve managed other debt obligations. 

FHA Mortgage Pre-Approval: Financial Evaluation

The prospective lender must know how much home you might be able to afford as a first step in the FHA mortgage pre-approval process. In addition to your down payment, other expenses and costs are necessary to qualify an FHA mortgage loan:
  •  Your lender must know that you have a financial cushion in addition to your mortgage loan down payment. Your down payment must not deplete your savings or “emergency” cushion. 
  • Before meeting with your prospective lender, gather the last two years’ tax returns, income statements, pay stubs, bank accounts, investment accounts, and other financial documents. You must verify funds for the down payment and demonstrate additional financial resources. 
  • If you’re self-employed, bring Profit & Loss (P&L) statements and credit reports (if applicable) for the past two years or more.

Self-employment can pose additional hurdles in the FHA mortgage pre-approval process. The lender must know that your business is solvent and able to weather a financial downturn. 

What the Lender Needs to Know in the FHA Mortgage Pre-Approval Process
The lender needs to understand your finances. As a first step, the lender will ask about your gross annual income:
  • A quick estimate of how much house you can afford is accomplished by multiplying your gross income per year by 2.5. If you earn $100,000 a year, you may be able to afford a $250,000 home.
  • Reality must prevail at all times. The lender will factor current interest rates, your credit history, and current debt to arrive at the actual mortgage prequalification amount. Other factors, such as whether you’re planning to own a single family house or a condo will affect costs. For instance, owning a condo involves budgeting for monthly condo fees. Mortgage rates to buy the condo might also be higher.

The lender will also need to know about your down payment and savings. Typically, the lender wants to see that you’ve saved five to 20 percent of the future home’s cost:
  •  Your down payment should be safe and secure in a low-risk account, such as an FDIC-insured short maturity certificate of deposit (CD). 
  • The lender wants to know about your lifestyle and expenses. Plan to show how much you spend each month, and include planned expenses necessary for home ownership. Maintenance, repairs, and improvements cost homeowners an average of $2,500 in 2013.
  • Show the lender that you’re prepared for any emergency. You should have an emergency fund with a minimum of six to 12 months’ living expenses in the event of illness or job loss. If you’re planning to be married or pay educational expenses, you should have the money set aside to pay for these items. Ideally, your emergency fund is secured in a separate savings account or sub-savings account that’s labeled for the purpose.
  • If you qualify for the lowest FHA down payment, you’ll still need money for credit reports, appraisal fees, tax services fees, government recording charges and, possibly, the lender’s loan origination fee. These costs usually represent from two to five percent of the home purchase price.

FHA Mortgage Pre-Approval and Non-Traditional Credit Evaluation

If your credit score is low because you don’t use credit cards and prefer to pay cash for a car, it’s still possible to qualify for an FHA mortgage loan on a non-traditional credit model:
  • The lender will evaluate your payment history even if you don’t have credit cards or revolving debt. For example, the lender will determine if you pay renter’s or car insurance premiums on time.
  • Your ability to repay the mortgage loan is essential, so the lender must know about all sources of income. It’s possible to obtain a co-signer for your loan if you don’t qualify for an FHA mortgage on your own.FHA Mortgage Pre-Approval: the Four Cs.
Getting pre-approved for an FHA mortgage depends on several factors. Lenders calculate how much they’re willing to lend according to the “four Cs” of capital, credit, capacity, and collateral. Before the lender considers FHA mortgage pre-approval, he or she must know you have the financial resources and mindset necessary to manage a mortgage loan obligation.

As a general rule-of-thumb, your mortgage payment—including principal, interest, taxes, and mortgage insurance—should be no more than 28 percent of your gross monthly income. For example, if you earn $50,000 per year, your mortgage payment shouldn’t be greater than $1,167 per month.
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