What's Needed to Qualify
Key Qualifying Criteria
introduction
Lenders Use Several Criteria to qualify an applicant for home equity financing. The most important criteria include:
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First Topic: The Home Appraisal
needed to qualify
The Home Appraisal
Lenders will not extend an equity line amount that exceeds the value of your home.
Since a home equity is secured in a 2nd position by the value of your home, lenders will use your home value to determine how much loan amount that you can qualify for.
Regardless of what you paid for the home, lenders would be taking a sizable risk if you defaulted on the loan.
That is why lenders complete a market valuation or a home appraisal before they qualify any home equity amount. The appraisal must be comparable with similar homes in the surrounding neighborhood and market.
Loan-to-Value (LTV) Calculation
Most lenders qualify equity line amounts using a Loan-to-Value (LTV) calculation - which means that they will underwrite a loan at the LTV percentage of the appraised or market value of the home minus any amount that you still owe on your first mortgage and/or 2nd and 3rd mortgages.
This is calculated by taking:
- Estimated Appraised Property Value
- (times) % LTV
- (minus) Mortgage Balance and Any Secured Liens on the Property
That is why the value of your home is an important component lenders use to qualify you for a loan amount.
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needed to qualify
Check Your Credit Rating
Your credit report is used by banks and other lending institutions to determine your credit worthiness.
The report lists any payment delinquencies that you may have had over the past three years.
While information regarding your credit habits for the last three years appears on your credit report, no adverse credit information, with the exception for bankruptcy, may be kept on file for more than seven years.
Higher Credit Ratings Qualify for Financing
The report can be a factor in a lending institution's decision to approve or decline your equity line application.
You should review your credit report for any errors before applying for a equity line:
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Lending institutions review the following information from your credit report to determine your creditworthiness:
- your current outstanding debt
- number of times you've applied for credit
- kind of credit you have taken out in the past
- late payments
- over extension of your credit lines
- liens
- garnishments
- bankruptcy
Need 1 Year of Good Credit History
You need a credit history of at least one year to ensure a good credit report.
A credit score determines the rate the lender may charge you. The credit score estimates your ability to repay a loan as evidenced by your credit history.
Lenders will sometimes give you a better rate based on a good credit report.
Furthermore, a lending institution is less likely to be concerned over an occasional late payment if you have a good credit report rather than a fair credit report.
Establishing Good Credit
Establishing a good credit report can payoff in lower rates and better loan management.
For more information: link to our affiliated credit module for credit report information, repair, and management:
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needed to qualify
Your Capacity to Repay
Your capacity to repay the equity line is an important factor for lending institutions to qualify an applicant for financing.
If capacity ratios are too high, you will need to change one of the following parameters in order to qualify for equity financing:
- reduce your borrowed amount
- increase your LTV position
- increase your income
- pay off outstanding debts
Lenders Use Two Debt Ratios
1: The "HOUSING ratio":
calculated by dividing monthly housing expenses by your gross monthly income. As a basic rule, the housing ratio should not exceed 28%.
What are your monthly housing expenses:
- current mortgage loan payment on your home including interest and principal
- real estate taxes
- hazardous insurance
- private Mortgage Insurance, if any
- other mortgage related insurance
- homeowners association dues
- ground keeping fees
- property leases
- other special assessments and financing
Monthly income includes the following:
- employment income
- overtime bonuses and commissions
- net self employment income
- alimony, child support and income from public assistance
- social security, retirement, and VA benefits
- workman's compensation or permanent disability payments
- interest and dividend income
- income from trust, partnerships, etc.
- net rental income
2: The "DEBT ratio":
calculated by dividing monthly debt payments and other financing obligations by your gross monthly income. As a basic rule, the debt ratio should not exceed 36%.
What debt payments are includes:
- housing debt payment (from above)
- auto and other transportation loan payments
- student debt payments
- secured and unsecured loan payments
- credit card payments
- credit line payments (home equity)
- alimony and child support payments
- tax lien payments
- other debt obligations
Related topics:
(from our money magazine at SayEducate.com - opens new window)
needed to qualify
Your Employment
Your capacity to repay the loan is contingent on your employment and other income sources.
Lenders like to see home equity applicants in steady jobs with verifiable income. Lenders may request a copy of a current W-2 and pay stub from your employer. They will likely call your employer to verify your employment position and salary/wages.
Any discrepancy in your reported employment and income may raise additional questions that can disqualify you for a loan.
What About Self Employed
Self-employed individuals will require additional documents to ensure lenders that the applicant has steady income.
These documents will include your personal tax filings and other information as required such as tax returns, financial statements, and balance sheet.
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