You’re considering homeownership and as a smart consumer, you are preparing for this big financial step. You’ve gone through the process of determining whether renting or buying is best for you, how much home you can afford, understanding the responsibilities that go along with homeownership, and saving for your down payment. So what’s next? What do you need to know before you apply for the mortgage loan? How does the lender make the decision to approve your application?

When you apply, an underwriter will review your loan application through an evaluation process to determine the risk involved for the lender. Risk is a measure of the likelihood that you will repay the loan according to the terms. So what information does the underwriter collect and analyze during the process? How is risk evaluated?

There are specific factors that an underwriter reviews and while there is no individual factor alone that determines the final recommendation made, there are some things you can do to improve the outcome. The risk factors are divided into two groups: credit report factors and non-credit report factors. Credit report factors include credit history, delinquent accounts, credit card accounts, public records, foreclosures, collections, and inquiries. All information is considered by the amount of risk and overall significance in the underwriting recommendation. Non-credit report factors encompass a wide variety of items such as equity and loan-to-value ratio, liquid reserves, debt-to-income ratio, loan purpose, loan type, loan term, property type, number of borrowers, self-employed borrowers, and occupancy.

As all information is weighed in the decision, of course, a measured strength for a borrower in one area can offset a greater risk factor in another. The best result or outcome of the underwriting process for the borrower would be strength in both credit report factors and non-credit report factors. This time in DebtEdge, we’ll look at some ways and ideas to assist you with the credit report factors to present the strongest position in your application with the lowest risk possible.

First, what is the story your lender sees when reviewing your credit report? Your credit report tells whether you pay the correct amounts to your creditors and in a timely manner. It also lists a record of how much debt you have, any current or past public records, how often you have applied for credit in the last two years, and who you have authorized to obtain a copy of your credit report.

As a smart consumer you will want to obtain a copy of your credit report approximately six months before making your mortgage application. This provides you with an opportunity to review your credit report and investigate any mistakes, errors, or problems that are revealed. The six-month time frame is recommended, as this should allow an adequate amount of time for any corrections to be completed prior to the review by the underwriter.

For better insight into what the underwriter will be assessing during the review, let’s examine each factor individually.

Credit history - this information informs the underwriter of how well you have met the terms of previous credit opportunities. It also tells how recently your credit accounts have been opened; comparing your handling of credit in the past to how you handle credit now. If you do not have an established history on your credit report, don’t despair.  You may be able to work with your lender by reviewing how you’ve paid rent, utilities, or other ‘nontraditional’ credit to demonstrate a positive history.

Delinquent accounts - as part of your credit history, your credit report records when you have paid a bill late (30 days or more). Patterns of late payments can negatively affect the underwriters review, particularly if late payments have been recent or on previous mortgage loans. The amount of time since the account was delinquent is considered as well. Remember, just because you bring an account current does not mean the credit report drops the delinquency reference.

Credit Card Accounts - these accounts can be a useful tool to reflect a positive credit history. Nevertheless, use these accounts wisely. The smart consumer knows that if most of their credit card accounts are ‘maxed out’ (or close to the credit limit) this can be interpreted by the underwriter as potential credit overextension and increase the risk assessment made.

Public Records - If you have not paid your bills over an extended period of time, many creditors will pursue collection or legal action against you. Legal actions including bankruptcy, judgments, liens, or foreclosure are listed on your credit report. These items will list on your credit report for 7 to 10 years. While public records usually create higher risk determinations, the older the listing, the less influential the negative impact.

Inquiries - typically, each time you apply for credit, the creditor will request a copy of your credit report. The listing of who has accessed your credit report is known as inquiries. When looking to purchase a home, caution would be used by the smart consumer to carefully control how often the credit report is accessed for a minimum of six months prior to your application for a mortgage.

Remember, consistent monitoring of your credit report, particularly the credit report factors, early in your home buying efforts is important. Allowing adequate time to correct any errors and ensuring there will be no surprises as the underwriting review proceeds will reduce any additional stress or anxiety you may have resulting from this life changing experience. Next time, we’ll review the non-credit report factors to increase our understanding of the underwriting process and consider some ideas for strong assessments of those factors as well.