Buying a home is an exciting time for all home buyers, but for many it seems that nothing is quite so special as buying their first home. Few of us have enough money saved to pay for a home all at once with a cash purchase, so, for most of us, it’s necessary to pay for our homes over time with a type of loan known as a mortgage.
These types of loans often feature extended repayment periods of 10, 20, or 30 years and a lower interest rate since the home and the property that comes with it are used as collateral for the debt. There are also certain requirements that home buyers must meet in order to qualify for this and other types of loans.
Income Levels Remain an Important Factor in Home Loan Approvals
Despite the popularity of using a mortgage to finance the purchase of a home, there are a number of obstacles that stand in the way of a first-time home buyer pre-approval. One of the most important of these is income. In the past, before the economic downturn that began sometime in 2007-08 and is now known as “The Great Recession,” some lenders would approve home loans without collateral and without verifying the income levels of the borrowers. These types of loans became known as “No Doc” approvals because they often required little, if any documentation of income, existing debt, or credit history.
After the downturn, when millions of homeowners defaulted on their mortgages, most lenders now require extensive documentation before they will approve a loan, including proof of income. Unfortunately, it can be especially difficult for first-time home buyers prove that they have enough steady income so that they can qualify for a home loan. This is especially true of prospective borrowers that are young adults and just starting out in their careers, when salaries are traditionally lower and existing debt in the form of student loans for college may be higher.
Existing Debt and Credit Ratings Also Key Factors in Mortgage Approvals
Another key barrier to obtaining a home loan is the existing debt and credit rating of the potential borrower. Most financial experts recommend that borrowers can only afford a monthly mortgage payment that is a maximum of 29% of their gross monthly income, and their total monthly debt payments, including their mortgage payment, should not exceed 41% of their gross monthly salary.
Even if the borrower has little or no existing debt payments prior to their mortgage application, their past history of credit use is also a major consideration in the loan approval process. There are several types of credit scores on the market that can provide lenders with insight into how a borrower has managed their debts in the past, and the wrong type of credit score can affect first-time home buyers and other applicants that wish to qualify for a loan in order to purchase their home.
Down Payment Requirements Continue to be Significant Hurdle to Home Loan Approval
One of the most difficult obstacles to home ownership for borrowers is that many lenders now require a down payment of 10 to 20 percent of the loan in order to be approved. Regardless of the amount of the loan, this can be a significant sum for most folks to save, especially if they have other large bills that they must pay each month. While the federal government does offer special programs such as FHA Loans and loans through the Rural Housing Service that require little to any down payment, borrowers approved for these types of loans will be required to cover the cost of Private Mortgage Insurance (PMI) if they go into debt without at least a 10% to 20% down payment.
Significant Benefits for Those Who Obtain Home Ownership
Despite the barriers to obtaining an approval for a home loan, there are a number of benefits for homeowners that make the process worthwhile. Homeowners that finance their home purchase with a mortgage have the peace of mind and security that comes with knowing that the money that they spend each month is going to purchase an asset that is likely to accrue, or grow, in value.
The IRS also recognizes and allows a number of federal tax breaks for homeowners, such as allowing mortgage interest to be deducted from a homeowner’s income and allowing the real estate taxes levied by state and local governments on the home to be deducted in many cases. Even though the costs for utilities such as electricity and water bills are not normally allowed to be deducted by homeowners, some small business owners that use a portion of their home as their office are allowed to deduct a percentage of these expenses from their income as well.
In addition to being able to acquire a valuable asset and build wealth over time, as well as favorable tax benefits, there are many times home ownership offers the borrower more freedom in terms of their lifestyle. Examples of this include how homeowners typically have much more freedom than a renter would in how they decorate their home, who is allowed to stay in the home and for how long, and even whether or not they are able to keep a pet.
These benefits are seen by many as far outweighing any cost or difficulties associated with qualifying for a home loan approval and make it worthwhile for most folks to go through the mortgage application process.