Mortgage underwriting is an important step along the path to final approval. It involves a detailed and thorough review of the borrower, the property, and all relevant documents.
This guide explains some of the most common underwriting problems that could delay or derail the closing process, and the proactive steps you can take to avoid them.
Here are the most important points covered in this guide:
- During underwriting, mortgage lenders evaluate the borrower’s financial stability and ensure that the loan complies with all requirements.
- Common underwriting issues that can delay closing include: insufficient income, low credit scores, high debt-to-income ratios, or issues with employment history.
- A home that appraises for less than the purchase price could also derail the process, unless the buyer and seller can agree on an adjustment.
- Responding quickly to any requests for documents or information can help keep the process on track and avoids delays.
- Different loans, like FHA or VA, have specific criteria. Learning about them in advance can help prevent surprises later on.
- Be proactive! Staying in touch with your loan officer and working to resolve any issues that arise can mitigate common underwriting challenges.
Mortgage Underwriting Defined
Mortgage underwriting is a process through which lenders (A) measure the risk associated with a certain borrower, and (B) ensure that the loan complies with minimum requirements.
The lender will also verify that the loan meets the guidelines imposed by any secondary agency, such as the FHA, VA, Freddie Mac, etc.
The underwriter will make sure that the borrower has the ability to repay the loan, and that the property being purchased provides sufficient collateral for the loan. This can be accomplished through income verification, bank account evaluation, and home appraisals.
Underwriting usually takes place after the home has been appraised, and it always happens before the final closing process.
9 Underwriting Issues That Could Delay Closing
When it comes to mortgage lending, problems can arise at several stages of the process. For instance, some borrowers might encounter issues when first applying for a loan, or closer to the closing date.
But most problems occur during the mortgage underwriting process. And that’s only logical, considering the in-depth nature of this review process.
Below, we will examine some of the most common underwriting problems that could delay the closing. They are listed in alphabetical order, not by importance or frequency.
1. Applicant does not have sufficient income.
Borrowers need to have sufficient income to qualify for the size of loan they seek.
Mortgage brokers and loan officers usually check for this on the front end. They do this by reviewing pay stubs and tax records, and sometimes bank statements as well.
The mortgage underwriter will also review the borrower’s income, later in the process.
Lenders verify income to make sure borrowers can repay their mortgage debt, on top of the other debts they currently have. (See “debt-to-income” below for more on this.)
Insufficient income can delay the closing and, in some cases, lead to rejection. The best way to avoid this is to shop for a home that falls within your price range.
Getting pre-approved for a loan prior to house hunting can help you narrow your search to a specific price range. This in turn can reduce the chance of mortgage underwriting problems later on.
2. Applicant does not have required cash reserves.
Some lenders require borrowers to have additional money in the bank, above and beyond the down payment and closing costs. These funds, known as “cash reserves,” are intended to cover the first few mortgage payments.
They’re also referred to as “mortgage reserves” or “liquid financial reserves.”
If a lender requires such reserves, but the borrower doesn’t have enough money in the bank to meet that requirement, it could lead to closing delays or outright rejection.
But it’s important to note that not all lenders have cash-reserve requirements. Some lenders only require them for larger “jumbo” loans, or for higher-risk borrowers with credit issues in the past. It varies.
So it’s something you want to ask about up front, before applying for a loan.
3. The borrower’s credit score is too low.
The underwriter will likely check your credit history to see how you have borrowed money in the past. If the underwriter finds derogatory items such as late payments, they might request a letter of explanation.
When there is a pattern of such issues, it could even derail the loan entirely. These problems are often uncovered during the underwriting stage.
Having a history of late payments on past credit accounts (credit cards, student loans, mortgages, etc.) could harm your chances of getting approved for a loan. It lowers your credit score and makes you a bigger risk, from the lender’s perspective.
4. The debt-to-income (DTI) ratio is too high.
Having too much debt is another issue that often gets flagged during the underwriting stage.
In some cases, this issue might get past the broker or loan officer, only to resurface later on when the underwriter reviews the file.
Mortgage lenders use the debt-to-income ratio, or DTI, to determine a borrower’s overall financial picture. This is a comparison between the amount of money you earn, and the amount you spend on your various debts.
These days, many lenders (and their underwriters) set the maximum total DTI ratio somewhere between 40% and 45%. But exceptions can be made for otherwise well-qualified borrowers.
If the underwriter determines that you’ll end up with too much debt, including the mortgage payments, he or she might disapprove of the loan.
5. Employment history falls short of lender guidelines.
Different lenders have different requirements for employment. The rule of thumb is that borrowers must have at least two consecutive years of stable employment, to qualify for a mortgage.
But this is not a hard-and-fast rule. There are exceptions.
If the underwriter determines that the borrower falls short of the lender’s employment requirements, it could lead to problems.
In the best-case scenario, the underwriter will simply require a letter of explanation. In the worst-case scenario, the loan will be denied during the underwriting stage.
6. Borrower’s funds are not “sourced and seasoned.”
Another common problem occurs when the money set aside for the down payment cannot be properly “sourced.” This means that the underwriter cannot determine where the money came from.
The lender might also require the funds to be “seasoned,” which means they have to be in the bank for a certain length of time. Both of these requirements could potentially cause issues during the underwriting stage.
This is another item you’ll want to ask about up front, when you first start talking to a lender.
7. The home appraised below the purchase price.
Before they can approve a loan, mortgage lenders need to ensure that the home is worth the amount the buyer has agreed to pay. So they’ll send a licensed appraiser to estimate the current market value.
A low appraisal can create problems during the underwriting process. This is when the home appraises for less than the purchase price.
In cases of a low appraisal, the seller can lower the sale price or the buyer can pay the difference out of pocket. If the two parties cannot find common ground, the buyer might have to walk away from the deal.
8. The homeowner has insufficient equity for refinancing.
This problem applies to homeowners who are trying to refinance an existing mortgage, rather than those who are purchasing a home.
According to Mike Lyon, vice president of operations at Quicken Loans: “the number one reason for suspense, without question, is collateral. It dwarfs every other reason. Simply put, many clients think that their home is worth more than others in their neighborhood.”
9. The borrower cannot provide the required documents.
Document-related problems typically do not derail mortgages, by themselves. But they can delay the escrow closing process by requiring additional steps for verification.
So it’s important that you provide all of the requested documents in a timely fashion.
Bank statements are a good example. Lenders will usually request the last two months worth of bank statements. They do this to ensure you have stable income and sufficient funds for closing, among other reasons. If you’re unable to provide bank statements for some reason, it could cause issues or delays.
Note: These are not the only things that can go wrong during the mortgage underwriting process. They are just some of the most common problems that plague borrowers who are seeking a home loan.
How to Keep the Process on Track
Now for the big question. How can you, as a borrower, avoid the underwriting delays and issues listed above?
Here are three things that could help you keep the process on track:
- Research: Spend some time researching the minimum requirements for the type of home loan you plan to use. This could help you avoid unpleasant surprises down the road. FHA. VA. Conventional. Jumbo. All of the different mortgage programs have certain requirements. Researching them in advance will make you better informed — and better prepared.
- Preparation: There are several things you could do right now to improve your chances of mortgage approval later on. For instance, you could start saving money to cover your down payment and closing costs. You could also review your credit reports for accuracy, and check your credit score to see if it needs improving. The sooner you start these things, the better.
- Communication: You should have a primary point of contact when applying for a mortgage loan, and through the rest of the process as well. This is usually a broker or loan officer. Keeping in close contact with this person could help you avoid underwriting delays — or resolve them when they do arise.
Disclaimer: This article covers some of the most common issues that can affect home buyers during the mortgage underwriting process. But it doesn’t cover every possible scenario. The lending process can vary from one borrower to the next, so portions of this article might not apply to you.