Home loans: How banks evaluate your proposals

Your credit history is an account of your previous debt management practices. It shows lenders your average credit utilisation, the length of time you’ve had credit lines, and whether you’ve always made on-time payments. Lenders use this information to estimate your potential repayment capacity.

A high credit score indicates that you are a responsible borrower who manages debt well, reducing the risk to the lender. Conversely, a low score sends out warning signs and might be a sign of past defaults, delinquencies, or excessive credit use. Due to the lender’s increased perception of your risk, you may be denied a loan or may receive less favourable terms with a higher interest rate, as a result. When applying for loans, having a high credit score gives you an advantage. You may be able to bargain for better loan terms or a lower interest rate if you have a strong credit history.

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Income and debt-to-income ratio

When determining whether a borrower can afford a monthly mortgage payment, lenders take their income into account. To compare the borrower’s monthly debt payments to their total monthly income, they also compute the debt-to-income (DTI) ratio. Less risk to lenders is indicated by a lower DTI ratio.

When figuring out how much you can comfortably pay each month for your mortgage, lenders consider your salary. Your gross monthly income from commissions, bonuses, wages, and other regular sources of income are also considered.

A more thorough analysis of your income about your current debt obligations can be obtained by utilising the DTI ratio. It helps lenders figure out how much of your income is already going for paying monthly debt, like credit card payments, school loans, and auto loans.

To calculate your DTI ratio, lenders add up all of your monthly payments, divide that amount by your gross monthly income, and then multiply the result by 100 percent to display the percentage. Borrowers generally gain from having a lower DTI.

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Employment history

To assess the borrower’s stability and consistency of income, lenders review their employment history. A stable work history can significantly improve the borrower’s chances of getting a loan approval. It is important to lenders that you can afford your mortgage and that you will be able to make timely payments for the duration of the loan.

Reliable income is indicated by a long history of employment with the same employer or by a steady career path in the same field. On the other hand, lenders may become concerned if a borrower changes job repeatedly or there are periods of unemployment as this could be a sign of future income volatility and make it more difficult to make mortgage payments.

Down payment

The terms and conditions of the borrower’s loan are significantly influenced by the amount of the down payment. By requiring you to borrow a smaller amount, a larger down payment lowers the Loan-to-Value (LTV) ratio , which is calculated by dividing the loan amount by the appraised value of the property. Given that the lender is only financing a smaller portion of the property’s value, a lower LTV suggests a lower risk to them.

In case of a larger down payment, borrowers with lower LTV ratios are typically offered lower interest rates . This is because they see you as a borrower who is less risky. Throughout the loan period, a lower interest rate can save a lot of money.

A larger down payment can strengthen your application and increase your chances of acceptance, even though lenders require a minimum payment. By showcasing your financial commitment to the deal, it reduces the risk for the lender. A sizeable down payment might, in some cases, even grant access to lending programmes that are not otherwise available.

Collateral and property value

The foundation of a mortgage loan is the value of the property and the collateral. The mortgage loan is secured by the property you are buying, which the lender may take and sell to make up for any losses so that you don’t repay the loan. The fair market value of the property is how the lender determines the risk of lending to you.

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Purpose of the loan

The loan’s intended purpose can sway a lender’s decision, as different uses come with different levels of risk. It directly impacts the lender’s risk assessment. For instance, a loan for a primary residence in a well-established area might be seen as less risky than a loan for a secondary property in a distant location. This can impact the loan options available to you and the interest rate you’re presented with.

Lenders may also take into account several other factors to gain a more thorough understanding of your financial well-being and evaluate your eligibility for a home loan. These could include recent credit inquiries, payment track record on other debts, overall financial standing, cash reserves, and various other considerations.