In the USA, the US Census shows that there are over 6 million homes sold each year in the country. 64% of annual sales are financed by mortgages. A mortgage is a business term that defines a contract between a seller and lender concerning the ownership of a property. If you take a mortgage from a lending company, you are allowing a company or lender to take back the property in case you fail to remit the agreed amount plus interest. Click here to read more about mortgages and how they work.
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Requirements of mortgage loans
Not everyone who is in need of a house is eligible for a mortgage. Some people may have a poor credit score, and that may deny them a chance to own a home through a loan. Nevertheless, there are different ways of testing the creditworthiness of most lenders using equity and income.
FICO Score
Other than a good credit score, a lender may run your name through a system supported by a FICO score.
A FICO score is some sort of a creditworthiness system that a lender uses to determine whether or not to extend their services to a particular client. The FICO score was created by Fair Isaac Corporation (FICO) and had a borrower’s details which a lender is interested in.
To come up with the required information, a FICO score factors into account the following;
- History of payment
- The latest level of indebtedness
- types of credit the customer uses
- How long the client has been borrowing
- The latest credit account(s) a customer owns
- LTV Ratio
Since the FICO score may not provide all the required information, a lender will calculate the LTV ratio to be sure his loan will pay off. LTV or loan-to-value ratio is the assessment of the financial risk related to a mortgage. A high LTV ratio means that the loan is risky, and the mortgage company may respond to that by raising mortgage rates. In another situation, the company asks the borrower to insure the loan. This type of insurance is called PMI or Private Mortgage Insurance.
It is important for a lender to request insurance cover because it helps him offset the risk of the loan.
DSCR Ratio
Lastly, a good FICO and a lower LTV ratio will not convince the lender that you can pay for your loan. This is because the FICO score and LTV explain only your borrowing status; a lender needs more than this. This is where DSCR comes in.
DSCR is an acronym for Debt Service Coverage Ratio, which in simple terms explains if it will be possible to repay the loan installments. It measures a firm’s, government’s, or person’s available cash flow that will comfortably pay for a mortgage.
In the context of a government, the DSCR ratio works differently. A Government’s DSCR uses export earnings instead of cash flows.
These are some of the ratios that a mortgage company uses to calculate the amount of loan you are eligible for. Continue visiting our site for more informative updates on mortgages.